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Exam 2013, questions and answers

Introduction to Financial Accounting (University of Toronto)

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University of Toronto
Joseph L. Rotman School of Management

October 25, 2013

RSM219
Financial Accounting

Duration: 1 hour 50 minutes

Aids allowed: Non-programmable calculator

Instructions:
Please print your name, student number day and time of your tutorial in the space provided.

There are 10 multiple choice and 5 problems. Please use the space provided below for your
answer to the multiple choice questions.

You must use a pen. Do not use WHITEOUT.

Clearly show all computations in the test paper in order to obtain full marks for the
problems.

Tests written in pencil will not be considered for remarking.

_______________________________ _______________________________
LAST NAME FIRST NAME (registered name)

________________________________ ______________________________
Student number Tutorial Section

Marks: Answers to the Multiple Choice Questions

Part A (10 marks) 1.______ _ 6._______
Part B (15 marks) 2._______ 7._______
Part C (8 marks) 3._______ 8._______
Part D (5 marks) 4. _______ 9._______
Part E (6 marks) 5. _______ 10. _______
Part F (16 marks)
Total (65 marks)

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Part A (10 marks)

1. The time period assumption states that

a) A transaction can only affect one period of time.

b) Estimates should not be made if a transaction affects more than one time period.
c) Adjustments to the company's accounts can only be made in the time period when the
business terminates its operations.
d) The economic life of a business can be divided into artificial time periods.

2. The accounting principle used to determine when to record expenses is the

a) Matching principle.
b) Cost principle.
c) Monetary unit concept.
d) Time period assumption.

3. A company sells $10,000 on account in the current year and collects $7,500 of these accounts
receivable. It incurs $6,000 in expenses on account during the year and pays $4,000 of its
accounts payable. The company would report what amount of net earnings under the cash
and accrual bases of accounting, respectively?

a) $4,000 on the cash basis and $3,500 on the accrual basis

b) $3,500 on the cash basis and $4,000 on the accrual basis
c) $6,000 on the cash basis and $3,500 on the accrual basis
d) $1,500 on the cash basis and $6,000 on the accrual basis

4. Financial statements should be prepared

a) From an adjusted trial balance.

b) From a post-closing trial balance.
c) Using the Income Summary account.
d) Using permanent accounts only.

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5. Which of the statements below is not true?

a) An adjusted trial balance should show ledger account balances.

b) An adjusted trial balance can be used to prepare financial statements.
c) An adjusted trial balance proves the mathematical equality of debits and credits in the
ledger.
d) An adjusted trial balance is prepared after the financial statements are completed.

6. For 2012, Toronto Energy Inc. reported $24,000 beginning inventory and $26,000 ending
inventory. Net sales were $160,000 and gross profit was $55,000 for the same period. Based
on these figures, inventory turnover for 2012 was:

a) 3.4 times.
b) 4.2 times.
c) 6.4 times.
d) 9.2 times.

7. A ship builder would most likely have a

a) High inventory turnover.

b) Low profit margin.
c) High volume.
d) Low inventory turnover.

8. Commerce Corporation purchased merchandise inventory with an invoice price of $16,000

and credit terms of 2/10, n/30. How much cash will Commerce pay if they pay within the
discount period?

a) $16,000
b) $15,680
c) $14,720
d) $14,400

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9. Cost formula provides the better (1) income statement and (2) statement of financial position
valuations, respectively?

a) (1) Average and (2) FIFO

b) (1) FIFO and (2) average
c) (1) FIFO and (2) FIFO
d) (1) Average and (2) average

10. If beginning inventory is understated by $10,000, the effect of this error in the current period
is:

Cost of Goods Sold Profit

a) Understated Understated
b) Overstated Overstated
c) Understated Overstated
d) Overstated Understated

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Part B (15 marks)

A review of the ledger of Come-by-Chance Corporation at December 31, 2009, produces the
following unadjusted data for the preparation of annual adjusting entries:

1. Note Receivable, Dec. 31 unadjusted balance, $80,000: The note was issued on
September 1, 2009, at an annual interest rate of 8%, and matures on June 1, 2010. The
interest and principal are to be paid at maturity.

2. Prepaid insurance, Dec. 31 unadjusted balance, $12,600: The company has separate
insurance policies on its building and its motor vehicles. Policy B4564 on the building
was purchased on July 1, 2008, for $10,800. The policy has a term of two years. Policy
A2958 on the vehicles was purchased on January 1, 2009, for $4,500. This policy has a
term of 18 months.

3. Buildings, Dec. 31 unadjusted balance, $290,250: The company owns two buildings. The
first was purchased on September 1, 1995, for $125,250 and has an estimated 30 year
useful life. The second was purchased on May 1, 2003, for $165,000 and has an
estimated 50 year useful life.

4. Unearned Subscription Revenue, Dec. 31 unadjusted balance, $51,000: The selling price
of a magazine subscription is $50 for 12 monthly issues. A review of subscription
contracts reveals the following:

Subscription Date Number of

Subscriptions
October 1 220
November 1 310
December 1 490
1,020

5. Salaries payable, Dec. 31 unadjusted balance, $0: There are nine salaried employees.
Salaries are paid every Monday for the previous five-day work week (Monday to Friday).
Six employees receive a salary of $625 each per week, and three employees earn $750
each per week. December 31 is a Thursday.

Required:

(a) Prepare a calculation to show why the unadjusted balance in the Prepaid Insurance
account is $12,600 and why the unadjusted balance in the Unearned Subscription
Revenue account is $51,000.

(b) Prepare the adjusting journal entries at December 31, 2009.

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Part C (8 marks)

Pacioli Ltd, which uses a perpetual inventory system, recorded the following inventory
transactions for this year.
Purchases Sales
Units Unit Cost Units Selling
Price/Unit
April 1 Beginning inventory 45 $8
25 Purchase 150 9
May 4 Purchase 65 10
16 Sale 120 $16
June 4 Purchase 50 12

Required:

a) Calculate the cost of goods sold using the FIFO cost formula for the quarter ended June 30.
Show calculations.

b) Using the average cost formula, calculate the ending inventory at June 30. Show calculations
and use unrounded numbers in your calculations but round to the nearest cent for
presentation purposes in your answer.

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Part D (5 marks)

George Hatthaway, an electrician, entered into an agreement with a real estate management
company to perform all maintenance of basic electrical systems and air-conditioning equipment
in the apartment building under the company’s management. The agreement, which is subject to
annual renewal, provides for the pament of a fixed fee of $6,420 on January 1 of each year plus
amounts for parts and materials billed separately at the end of each month. Amounts billed at the
end of one month are collected in the next month. During the first three months of 2012, George
makes the following additional billings and cash collections:

Billing for Parts Cash Collected Cash paid for Cost of Parts and
and Materials Parts and Materials used
Materials
January $510 $6,530 ** $375 $360
February 0 435 280 270
March 380 0 315 330

** includes $110 for parts and materials billed in December 2011

Required

a) Calculate the amount of cash-basis income reported for each of the first three months.

b) Calculate the amount of accrual-basis income reported for each of the first three months

c) Why do decision- makers prefer the accrual basis of account?

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Part E (6 marks)

Gabriola Audio and Visual Ltd. (Gabriola) is a large retailer of audio-visual equipment and
supplies. Recently, the owner read about the large amount of theft that occurred in retail stores in
Canada. While she never thought this was much of a problem for her, she wanted an idea of how
much was being stolens so she could decide whether it was worthwhile to install theft-prevention
equipment or take other steps. Her accountant told her that if she counted the inventory on hand
he could give her an idea of the amount of inventory being stolen.

The owner had the inventory counted after store closing one Sunday. According to the count,
there was $1,440,000 of inventory on hand. The manager also told the accountant that since the
year-end, $81,000 of merchandise had been returned to suppliers. At the last year-end, Gabriola
had $1,910,000 of inventory. Since the year end, the store had purchase $802,500 of inventory
and had sales of $1,300,000. The gross margin that Gabriola usually earns is 25%.

Required:

a) Determine the amount that might have been stolen from the store

b) Is it possible to conclude with certainty that the amount you calculated in (a) was due to theft

c) Why is it necessary to count the inventory to estimate the amount of inventory that was
stolen

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Part F (16 marks)

Reitmans (Canada) Limited (Reitmans) is a retailer in the women’s clothing sector. It operates
over 900 stoes under seven different banners across Canada. The flagship Reitmans chain is the
largest ladies’ appare specialty chain in Canada. Other banners are Smart Set, Pennintons,
Addition Elle, RW & CO, Thyme Maternity and Cassis. Reitmans also sells apparel online. The
family-run company was founded in 1926 by Herman and Sarah Reitman in Montreal. Reitmans
stock trades on the TSX under the symbols RET and RET-A/

Reitmans’ consolidated balance sheets, staements of earnings, along with extracts from the notes
to the financial statements are provided. Use this information to respond to the following
required:

1) Calculate the following ratios for Reitman’s for 2012:

i. Profit margin
ii. Current ratio
iii.Gross profit margin

2) Prepare the closing journal entry that Reitmans would make on January 28, 2012

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3) How much does Reitmans report for property and equipment on January 28, 2012? What do
you think these assets are? Why do you think Reitmans needs to have so much invested in
property and equipment? (give 1 supporting reason for each)

4) You are a supplier who has recently been approached by Reitman’s management to replace
an existing supplier. Assess Retiman’s liquidity. Would you be prepared to provide credit to
Reitman’s? (Give 2 supporting reasons).

5) A customer purchases a $100 gift card at a Reitman’s store. What journal entry would be
made to record the purchase?

6) A customer purchases $155 of goods at a Reitman’s store using a $100 gift card and paying
the remainder in cash. What journal entry would Reitmans make to record the sale? (Assume
Reitman’s uses a periodic inventory system).

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Reitmans (Canada) Limited

Statement of Earnings
(in thousands of Canadian $ except per share amount For the years ended
January 28, 2012 January 29, 2011

Sales $ 1,019,397 1059000

Cost of goods sold (note 7) 363,333 350671

Gross profit 656,064 708,329

Selling and distribution expenses 547,367 528676
Administrative expenses 46,878 55511

Results from operating activities 61,819 124,142

Finance income (note 19) 5,562 4505

Finance costs (note 19) 1,509 845
Earnings before income taxes 65,872 127,802

Income taxes (note 11) 18,333 38817

Net earnings $ 47,539 $ 88,985

Earnings per share (note 20):

Basic $ 0.72 $ 1.33
Diluted $ 0.72 $ 1.32

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Reitmans (Canada) Limited

Balance Sheets
(in thousands of Canadian $ )
January 28, 2012 January 29, 2011 January 31, 2010
ASSETS
CURRENT ASSETS
Cash and cash equivalents (note 5) $ 196,835 $ 230,034 $ 228,577
Marketable securities 71,442 70,413 48,026
Trade and other receivables 3,033 2,866 2,926
Derivative financial asset (note 6) 751 - -
Income taxes recoverable 4,735 - -
Inventories (note 7) 78,285 73,201 63,127
Prepaid expenses 11,902 12,491 11,010
Total Current Assets 366,983 389,005 353,666

NON-CURRENT ASSETS
Property and equipment (note 8) 184,221 193,064 208,362
Intangible assets (note 9) 17,057 13,841 9,964
Goodwill (note 10) 42,426 42,426 42,426
Deferred income taxes (note 11) 23,174 21,021 18,313
Total Non-Current Assets 266,878 270,352 279,065

Total Assets $ 633,861 $ 659,357 $ 632,731

LIABILITIES AND SHAREHOLDERS’ EQUITY

CURRENT LIABILITIES
Trade and other payables (note 12) $ 63,875 $ 64,093 $ 54,684
Derivative financial liability (note 6) 1,505 - -
Deferred revenue (note 13) 22,278 19,834 18,122
Income taxes payable - 5,998 4,677
Current portion of long-term debt (note 14) 1,474 1,384 1,300
Total Current Liabilities 89,132 91,309 78,783

NON-CURRENT LIABILITIES
Other payables (note 12) 11,110 10,180 9,105
Deferred revenue (note 13) - 2,384 2,686
Deferred lease credits 17,317 19,011 20,609
Long-term debt (note 14) 8,573 10,047 11,431
Pension liability (note 15) 14,877 13,626 11,865
Total Non-Current Liabilities 51,877 55,248 55,696

SHAREHOLDERS’ EQUITY
Share capital (note 16) 39,890 29,614 25,888
Contributed surplus 5,158 6,266 5,164
Retained earnings 439,067 468,777 461,845
Accumulated other comprehensive income (note 16) 8,737 8,143 5,355
Total Shareholders’ Equity 492,852 512,800 498,252

Total Liabilities and Shareholders’ Equity $ 633,861 $ 659,357 $ 632,731

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RSM219
Term Test #2 – Solutions
Fall 2013

Part A (10 marks)

1. D
2. A
3. B
4. A
5. D
6. B
7. D
8. C
9. A
10. C

Part B(15 marks)

(a) 1. Prepaid Insurance

Remaining Months of
Original Period of Monthly Policy at Prepaid
Policy Cost Coverage Cost December 31, 2008 Insurance
Number (1) (2) (1) ÷ (2) (4) (3) X (4)

B4564 $10,800 24 months $450 18 months

(July 1, 2008 to
June 30, 2010) $ 8,100
A2958 $4,500 18 months $250 18 months
(January 1, 2009
to June 30, 2010)
4,500
Prepaid Insurance before adjustment, December 31, 2008 = $12,600

2. Unearned Subscription Revenue

Unearned
Number of Cost per Subscription
Month Subscriptions Sold Subscription Revenue

October 220 $50 $11,000

November 310 50 15,500
December 490 50 24,500
Unearned subscription revenue before adjustment = $51,000

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(b)
2009
1. Dec. 31 Interest Receivable ................................................................ 2,133
Interest Revenue .......................................................... 2,133
($80,000 X 8% X 4/12)

2. Dec. 31 Insurance Expense ................................................................. 8,400

Prepaid Insurance ........................................................ 8,400
($10,800 X 12/24) = $5,400
($4,500 X 12/18) = 3,000
$8,400

3. Dec. 31Depreciation Expense - Buildings ................................................... 7,475

Accumulated Depreciation - Buildings ....................... 7,475
($125,250 ÷ 30 years) = $4,175
($165,000 ÷ 50 years) = 3,300
$7,475

4. Dec. 31 Unearned Subscription Revenue ........................................... 7,375

Subscription Revenue .................................................. 7,375
Oct. 220 X $50 X 3/12 = $2,750
[Nov. 310 X $50 X 2/12 = 2,583
[Dec. 490 X $50 X 1/12 = 2,042
$7,375

5. Dec. 31 Salaries Expense.................................................................... 4,800

Salaries Payable........................................................... 4,800
6 X $625 X 4/5 = $3,000
[3 X $750 X 4/5 = 1,800
$4,800

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Part C( 8 marks)

Solution
(a) Purchases Cost of Balance
Goods Sold
April 1 (45 @ $8) = $360

April 25 (150 @ $9) = $1,350

(45 @ $8) = $ 360
(150 @ $9) = $1,350
$1,710

May 4 (65 @ $10) = $650

(45 @ $8)= $360
(150 @ $9) = $1,350
(65 @ $10) = $650
$2,360

May 16 (45 @ $8) = $360

(75 @ $9) = $675
$1,035

(b) Purchases Cost of Balance

Goods Sold
April 1 (45 @ $8.00) = $ 360.00
April 25 (150 @ $9) = $1,350.00 (195 @ $8.77) = $1,710.00
May 4 (65 @ $10) = $650.00 (260 @ $9.08) = $2,360.00
May 16 (120 @ $9.08) = $1,089.23)
(140 @ $9.08) = $1,270.77
June 4 (50 @ $12) = $600.00 (190 @ $9.85) = $1,870.77

Please note that discrepancies may result in the above schedule due to rounding.

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Part D (5 marks)

January February March

Cash Basis $ 6,530 $ 435 $ 6,965
Cash Collected -$ 375 -$ 280 -$ 315 -$ 970
Cash Paid for parts and materials $ 5,995

Accrual
Revenue $6,420 $ 535 $ 535 $ 535 $ 1,605
Separate billing $ 510 $ - $ 380 $ 890
Parts & materials used -$ 360 -$ 270 -$ 330 -$ 960
$ 1,535

c) Reasonable answer

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Part E (6 marks)

a)

Beginning inventory $ 1,910,000

Purchases $ 802,500
Sales -$ 975,000 $1,300,000 x 75%
$ 1,737,500
Inventory Count $ 1,440,000
Theft $ 297,500

b) Reasonable answer

c) Reasonable answer

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Part F
1. (3 marks)

i. Profit Margin = Net Earnings / Sales

= ($47,539) / ($1,019,397)
=0.0466  4.66% (1 mark)

ii. Current Ratio = Current Assets / Current Liabilities

= ($366,983) / ($89,132)
=4.12 (1 mark)
iii. Gross Profit Margin = Gross Profit / Sales

= ($656,064) / ($1,019,397)
=0.6435  64.35% (1 mark)

2. (2 marks)
DR Sales $1,019,397
DR Finance Income $ 5,562
CR COGS $363,333
CR Selling & Distribution Expenses $547,367
CR Administrative Expenses $ 46,878
CR Finance Costs $ 1,509
CR Income Taxes $ 18,333

CR Retained Earnings $ 47,539

Also Accepted

DR Net Earnings $47,539

CR Retained Earnings $47,539

3. (4 marks)

i. $184,221 (1 mark)

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ii. These assets could be:

 Store Buildings
 Warehouse Buildings
 Headquarter or Administrative Buildings
 Land on which these above building are located
 Store Fixtures
o Lights
o Shelves
o Etc.
 Specific Retail Equipment
o Cash Registers, Payment Terminals, Inventory Management Systems
o Etc.
 Specific Warehouse Equipment
o Forklift, Pallets, Storage Containers, Processing Computer and
Software
o Etc.
 Specific Distribution Equipment
o Transport Vehicles, GPS
o Etc.

***Note that the answer has to be relevant to Reitmans (1 mark)

iii. PPE is significant because:

(Reasons could include but not limited too)

 Physical Stores
o Reitman has over 900 retail store locations
o Within each store, point of sale and display equipment, etc. are
needed to generate revenue
 Warehousing
o As a large retailer, Reitman has to have large facilities and the
appropriate equipment to store and manage inventory
 Distribution
o Reitman has to ship inventory to over 900 stores all across Canada
 E-commerce (Online Sales Environment)
o Increases the need for specialized computer equipment (web servers,
inventory management etc.) while putting a greater emphasis on
warehousing and distribution.

*(Valid Reasons were given 1 mark each for a maximum of 2 marks)

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4. ( 3 marks)
i. Calculate 2 DISTINCT Liquidity Ratios (.5 mark each, 1 mark total)

o Only Liquidity Ratios are acceptable. Could include but not limited to the following
Liquidity Ratios:

Current Ratio = Current Assets / Current Liabilities

= ($366,983) / ($89,132)
OR = 4.12

Working Capital = Current Assets – Current Liabilities

= ($366,983) - ($89,132)
= $277,851

*Note that Current Ratio and working capital will lead to an identical conclusion on liquidity.
Therefore, they should not be used simultaneously to assess the liquidity of Reitman.

Inventory Turnover = COGS / Average Inventory

= ($656,064) / (($73,201 + $78,285)/2)
OR = 4.8

Days in Inventory = 365/Inventory Turnover

= 365/4.8
= 76 Days

*Note that Inventory Turnover and Days in Inventory will lead to an identical conclusion on
liquidity. Therefore, they should not be used simultaneously to assess the liquidity of Reitman.

Acid-Test Ratio = [Cash + A/R + Short-Term Investments] / Current Liabilities

= ($196,835 + $71,442 + $3,033) / ($89,132)
= 3.04

ii. Comment on calculated Ratios (.5 mark each, 1 mark total)

o What do the calculated ratios mean/imply about the liquidity of Reitman and the
possibility of them being able to pay a loan?

Ex. Based on a current ratio of 4.12, Reitman has sufficient current assets to meet its current
liabilities in the coming year. This implies that they have high liquidity and are capable of paying
short-term obligations.

iii. Conclude (Yes/No) (1 mark)

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5. (2 marks)

DR Cash $100
CR Unearned Revenue $100

6. (3 marks)

DR Cash $ 55
DR Unearned Revenue $100
CR Revenue $155

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