Principles of Accounting Exam 2 Study Review: Step-by-Step Guidance

Part C Mathematical Questions

Q1. Inventory Turnover and Days Sales in Inventory

Background

Topic: Inventory Management Metrics

This question tests your ability to calculate and interpret key inventory metrics: cost of goods sold, average inventory, inventory turnover, and days sales in inventory. These are essential for analyzing how efficiently a company manages its inventory.

Key Terms and Formulas

• Cost of Goods Sold (COGS): $\text{Net Sales} - \text{Gross Profit}$

• Average Inventory: $\frac{\text{Beginning Inventory} + \text{Ending Inventory}}{2}$

• Inventory Turnover: $\frac{\text{COGS}}{\text{Average Inventory}}$

• Days Sales in Inventory: $\frac{365}{\text{Inventory Turnover}}$

Step-by-Step Guidance

1. Calculate cost of goods sold by subtracting gross profit from net sales.

2. Compute average inventory by adding beginning and ending inventory, then dividing by 2.

3. Set up the inventory turnover formula using your COGS and average inventory values.

4. Prepare the formula for days sales in inventory using 365 days and your inventory turnover result.

Try solving on your own before revealing the answer!

Final Answer:

(a) Cost of Goods Sold: $600,000

(b) Average Inventory: $80,000

(c) Inventory Turnover: 7.5 times

(d) Days Sales in Inventory: 48.67 days

These calculations show how quickly inventory is sold and replaced, which is important for managing stock and cash flow.

Q2. Depreciation Methods

Background

Topic: Depreciation Calculations

This question assesses your understanding of straight-line and double-declining-balance depreciation methods, including how to calculate annual depreciation and apply the correct rate.

Key Terms and Formulas

• Straight-Line Depreciation: $\frac{\text{Cost} - \text{Residual Value}}{\text{Useful Life}}$

• Double-Declining-Balance Rate: $\frac{2}{\text{Useful Life}}$

• Double-Declining-Balance Depreciation: $\text{Book Value at Beginning of Year} \times \text{DDB Rate}$

Step-by-Step Guidance

1. Calculate annual straight-line depreciation using the cost, residual value, and useful life.

2. Determine the double-declining-balance rate by dividing 2 by the useful life.

3. Compute first-year DDB depreciation by multiplying the initial cost by the DDB rate.

4. For the second year, subtract first-year depreciation from the cost to get the new book value, then multiply by the DDB rate.

Try solving on your own before revealing the answer!

Final Answer:

(a) Annual straight-line depreciation: $11,250

(b) Double-declining-balance rate: 25%

(c) First-year DDB depreciation: $24,000

(d) Second-year DDB depreciation: $18,000

Double-declining-balance accelerates depreciation, resulting in higher expense in early years.

Q3. Aging Receivables

Background

Topic: Allowance Method for Uncollectible Accounts

This question tests your ability to estimate uncollectible accounts using the aging method, adjust the allowance account, and compute net realizable value of receivables.

Key Terms and Formulas

• Estimated Uncollectible Amount: $\text{Balance} \times \text{Estimated % Uncollectible}$

• Required Ending Allowance: Sum of all estimated uncollectibles

• Adjusting Expense: $\text{Required Ending Allowance} - \text{Current Allowance Balance}$

• Net Realizable Value: $\text{Accounts Receivable} - \text{Allowance for Bad Debts}$

Step-by-Step Guidance

1. Multiply each aging category by its estimated uncollectible percentage to find the expected loss for each.

2. Add the results to get the required ending balance in the Allowance for Bad Debts account.

3. Subtract the current allowance balance (credit or debit) from the required ending allowance to find the adjusting expense.

4. Calculate net realizable value by subtracting the required ending allowance from total accounts receivable.

5. Repeat the adjusting expense calculation using the alternative debit balance scenario.

Try solving on your own before revealing the answer!

Final Answer:

(a) Required ending allowance: $18,900

(b) Adjusting expense: $15,800 (with $3,100 credit balance); $19,800 (with $900 debit balance)

(c) Net realizable value: $191,100

The aging method provides a more accurate estimate of uncollectible accounts by considering the age of receivables.

Q4. Notes Receivable and Interest

Background

Topic: Notes Receivable and Accrued Interest

This question covers how to calculate the maturity date, total and accrued interest, and the total cash collected on a note receivable.

Key Terms and Formulas

• Interest: $\text{Principal} \times \text{Rate} \times \text{Time}$ (Time in years or fraction of year)

• Maturity Date: Add the note term to the issue date

• Total Cash Collected: Principal + Total Interest

Step-by-Step Guidance

1. Determine the maturity date by adding six months to November 1.

2. Calculate total interest for the six-month period using the principal, rate, and time.

3. Compute interest accrued at December 31 by calculating interest for two months.

4. Set up the calculation for additional interest earned in Year 2 (remaining four months).

5. Prepare to sum principal and total interest for the total cash collected at maturity.

Try solving on your own before revealing the answer!

Final Answer:

(a) Maturity date: May 1, Year 2

(b) Total interest: $720

(c) Interest accrued at December 31, Year 1: $240

(d) Additional interest in Year 2: $480

(e) Total cash collected at maturity: $24,720

Interest is split between the two years based on the note's term.

Q5. Bank Reconciliation

Background

Topic: Bank Reconciliation

This question tests your ability to reconcile the bank statement and company books, adjusting for timing differences and errors, and to determine the actual cash available.

Key Terms and Formulas

• Bank Side Adjustments: Add deposits in transit, subtract outstanding checks

• Book Side Adjustments: Add EFT receipts, subtract service charges, NSF checks, and correct errors

• Actual Cash Available: Adjusted book balance after all corrections

Step-by-Step Guidance

1. Start with the bank statement balance and add/subtract items not yet recorded by the bank (deposits in transit, outstanding checks).

2. Start with the book balance and add/subtract items not yet recorded in the books (EFT receipts, service charges, NSF checks, errors).

3. Calculate the correct cash balance after all adjustments.

4. Ensure both adjusted balances match, confirming reconciliation.

Try solving on your own before revealing the answer!

Final Answer:

Actual cash available: $15,525

Both the adjusted bank and book balances should agree after all reconciling items are considered.

Q6. Multi-Step Income Statement

Background

Topic: Income Statement Preparation

This question asks you to prepare a multi-step income statement, which separates operating and non-operating items and shows subtotals like gross profit and operating income.

Key Terms and Formulas

• Net Sales: $\text{Sales Revenue} - \text{Sales Returns and Allowances} - \text{Sales Discounts}$

• Gross Profit: $\text{Net Sales} - \text{Cost of Goods Sold}$

• Operating Expenses: Selling + Administrative Expenses

• Operating Income: $\text{Gross Profit} - \text{Operating Expenses}$

• Other Income/Expenses: Interest Revenue/Expense

• Net Income: $\text{Operating Income} + \text{Other Income} - \text{Other Expenses}$

Step-by-Step Guidance

1. Calculate net sales by subtracting returns and discounts from sales revenue.

2. Compute gross profit by subtracting cost of goods sold from net sales.

3. Add selling and administrative expenses to get total operating expenses.

4. Subtract operating expenses from gross profit to find operating income.

5. Include other income and expenses to determine net income.

Try solving on your own before revealing the answer!

Final Answer:

Net Sales: $435,000

Gross Profit: $175,000

Operating Expenses: $100,000

Operating Income: $75,000

Other Income/Expenses: -$5,000

Net Income: $70,000

The multi-step format provides more detail on profitability from core operations.

Q7. Land, Building, and Land Improvements

Background

Topic: Asset Cost Allocation

This question tests your ability to allocate costs among land, building, and land improvements, and to identify which assets are depreciated.

Key Terms and Formulas

• Land Cost: All costs to acquire land and prepare it for use, less salvage proceeds

• Building Cost: Construction and related costs

• Land Improvements: Costs for parking lots, fencing, etc.

• Depreciation: Applied to building and land improvements, not land

Step-by-Step Guidance

1. Add all costs related to acquiring and preparing the land, including cash, note, taxes, legal fees, and demolition, then subtract salvage proceeds.

2. Assign construction costs to the building.

3. Assign parking lot and fencing costs to land improvements.

4. Identify which assets are depreciated (building and land improvements).

Try solving on your own before revealing the answer!

Final Answer:

Land: $431,000

Building: $600,000

Land Improvements: $57,000

Building and land improvements are depreciated; land is not.

Q8. Perpetual FIFO and LIFO

Background

Topic: Inventory Costing Methods

This question requires you to prepare perpetual inventory records under FIFO and LIFO, calculate cost of goods sold, ending inventory, and gross profit, and reconcile units and costs.

Key Terms and Formulas

• FIFO: First-In, First-Out; oldest costs assigned to COGS

• LIFO: Last-In, First-Out; newest costs assigned to COGS

• Gross Profit: $\text{Sales Revenue} - \text{COGS}$

Step-by-Step Guidance

1. Record beginning inventory and each purchase, tracking cost layers for FIFO and LIFO.

2. For each sale, determine which cost layers are used for COGS under each method.

3. Calculate total COGS and ending inventory for both FIFO and LIFO.

4. Compute gross profit by subtracting COGS from total sales revenue for each method.

Try solving on your own before revealing the answer!

Final Answer:

FIFO: COGS $1,360; Ending Inventory $1,080; Gross Profit $2,640

LIFO: COGS $1,420; Ending Inventory $1,020; Gross Profit $2,580

FIFO results in lower COGS and higher gross profit when costs are rising.

Q9. Purchase Discounts and Inventory Errors

Background

Topic: Purchase Discounts and Inventory Error Effects

This question tests your understanding of how purchase discounts are calculated and how inventory errors affect cost of goods sold and net income across periods.

Key Terms and Formulas

• Purchase Discount: $\text{(Invoice - Returns)} \times \text{Discount Rate}$

• Cash Payment: $\text{Invoice - Returns - Discount}$

• Inventory Error Effects: Overstated ending inventory reduces COGS and increases net income; the next year, the error reverses.

Step-by-Step Guidance

1. Subtract returns from the invoice amount to get the net payable.

2. Calculate the discount if paid within the discount period.

3. Subtract the discount from the net payable to find the cash payment.

4. For payment after the discount period, the full net payable is due.

5. Explain the effects of an inventory overstatement on COGS and net income for both years.

Try solving on your own before revealing the answer!

Final Answer:

Payable after returns: $45,000

Discount: $900

Cash payment on day 8: $44,100

Cash payment on day 20: $45,000

Year 1: Overstated ending inventory understates COGS and overstates net income. Year 2: COGS is overstated and net income is understated.

Q10. Depreciation Through Disposal

Background

Topic: Depreciation and Asset Disposal

This question covers calculating depreciation through the date of sale, accumulated depreciation, book value, and gain or loss on disposal for both straight-line and double-declining-balance methods.

Key Terms and Formulas

• Straight-Line Depreciation: $\frac{\text{Cost} - \text{Residual Value}}{\text{Useful Life}}$

• Accumulated Depreciation: Sum of depreciation to date

• Book Value: $\text{Cost} - \text{Accumulated Depreciation}$

• Gain/Loss: $\text{Sale Proceeds} - \text{Book Value at Sale}$

• Double-Declining-Balance: $\text{Book Value} \times \text{DDB Rate}$

Step-by-Step Guidance

1. Calculate annual straight-line depreciation for the fixtures.

2. Compute depreciation for the current year up to the sale date (five months).

3. Sum accumulated depreciation at the sale date.

4. Determine book value at sale and compare to sale proceeds to find gain or loss.

5. For the equipment, calculate first-year DDB depreciation, then book value at sale and gain or loss.

Try solving on your own before revealing the answer!

Final Answer:

Fixtures: Annual depreciation $6,000; current-year depreciation $2,500; accumulated depreciation $14,500; book value $21,500; gain on sale$-2,500 (loss).

Equipment: First-year DDB depreciation $16,000; book value at sale $24,000; gain on sale$-3,000 (loss).

Depreciation must be updated through the sale date to determine correct gain or loss.