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

Q1. Inventory Turnover and Days Sales in Inventory

Background

Topic: Inventory Management Ratios

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 ratios help assess how efficiently a company manages its inventory.

Key Terms and Formulas:

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

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

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

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

Step-by-Step Guidance

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

2. Compute average inventory using the beginning and ending inventory balances.

3. Set up the inventory turnover formula using your COGS and average inventory from previous steps.

4. Prepare the formula for days sales in inventory using the inventory turnover you will calculate.

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

We used the provided formulas and plugged in the values step by step to arrive at these results. These metrics help evaluate how quickly inventory is sold and replaced.

Q2. Depreciation Methods

Background

Topic: Depreciation Calculations

This question tests your understanding of both straight-line and double-declining-balance depreciation methods, including how to calculate annual depreciation, depreciation rates, and depreciation expense for specific years.

Key Terms and Formulas:

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

• Double-Declining-Balance Rate: $\text{DDB Rate} = 2 \times \frac{1}{\text{Useful Life}}$

• DDB Depreciation Expense: $\text{DDB Depreciation} = \text{Book Value at Beginning of Year} \times \text{DDB Rate}$

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 doubling the straight-line rate.

3. Set up the first-year DDB depreciation calculation using the initial book value and DDB rate.

4. For the second year, subtract the first year's depreciation from the book value, then set up the DDB calculation for year two. Remember not to depreciate below the residual value.

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

These calculations show the differences between straight-line and accelerated depreciation methods.

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 for Bad Debts, and calculate net realizable value of receivables.

Key Terms and Formulas:

• Estimated Uncollectible Amount: $\text{Estimated} = \text{Balance} \times \text{Estimated % Uncollectible}$ (for each age category)

• Required Ending Allowance: $\text{Sum of all estimated uncollectibles}$

• 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. For each age category, multiply the balance by its estimated uncollectible percentage.

2. Add up all the estimated uncollectible amounts to get the required ending allowance.

3. Set up the calculation for the adjusting expense using the required ending allowance and the current balance (credit or debit) in the allowance account.

4. Set up the formula for net realizable value using total accounts receivable and the required ending allowance.

Try solving on your own before revealing the answer!

Final Answer:

(a) Required ending allowance: $18,900

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

(c) Net realizable value: $191,100

We calculated the required allowance by summing the estimated uncollectibles for each category, then adjusted for the existing balance to find the expense, and subtracted the allowance from total receivables for net realizable value.

Q4. Notes Receivable and Interest

Background

Topic: Notes Receivable and Accrued Interest

This question tests your ability to calculate the maturity date, total interest, accrued interest at year-end, additional interest in the next year, and total cash collected at maturity for a note receivable.

Key Terms and Formulas:

• Interest Formula: $\text{Interest} = \text{Principal} \times \text{Rate} \times \text{Time}$

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

• Accrued Interest: Calculate interest earned but not yet received by year-end.

• Total Cash Collected: Principal plus total interest earned over the note's life.

Step-by-Step Guidance

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

2. Set up the total interest calculation using the principal, rate, and time (in years).

3. Calculate the portion of interest accrued by December 31, Year 1 (from November 1 to December 31).

4. Set up the calculation for the remaining interest earned in Year 2 through maturity.

5. Prepare the formula for total cash collected at maturity (principal plus total interest).

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 12/31/Y1: $240

(d) Additional interest in Y2: $480

(e) Total cash collected: $24,720

We calculated interest for the full term, split it between years, and added it to the principal for the total cash collected.

Q5. Bank Reconciliation

Background

Topic: Bank Reconciliation

This question tests your ability to prepare a bank reconciliation, adjusting both the bank and book balances 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 deposits in transit, then subtract outstanding checks.

2. Start with the book balance and add EFT receipts, then subtract service charges, check charges, NSF checks, and correct the supplier check error.

3. Set up the calculation for the adjusted book balance, which should match the adjusted bank balance.

Try solving on your own before revealing the answer!

Final Answer:

Actual cash available: $15,575

We adjusted both the bank and book balances for all reconciling items, ensuring both sides matched to find the true cash available.

Q6. Multi-Step Income Statement

Background

Topic: Income Statement Preparation

This question tests your ability to prepare a multi-step income statement, including net sales, gross profit, operating expenses, operating income, other income/expenses, and net 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: $\text{Selling Expense} + \text{Administrative Expense}$

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

• Other Income/Expenses: $\text{Interest Revenue} - \text{Interest Expense}$

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

Step-by-Step Guidance

1. Calculate net sales by subtracting returns, allowances, 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. Set up the calculation for operating income and then for net income, including other income and expenses.

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

Each subtotal is calculated step by step, following the multi-step income statement format.

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: Includes purchase price, legal fees, back taxes, demolition (net of salvage), etc.

• Building Cost: Construction costs.

• Land Improvements: Parking lot, fencing, etc.

• Depreciation: Land is not depreciated; building and land improvements are.

Step-by-Step Guidance

1. Add up all costs related to acquiring the land, including purchase price, note, back taxes, legal fees, and net demolition costs (demolition minus salvage).

2. Assign the construction cost to the building.

3. Add the parking lot and fencing costs to land improvements.

4. Identify which assets are depreciated and which are not.

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 tests your ability to apply FIFO and LIFO methods under a perpetual inventory system, track cost layers, and calculate cost of goods sold, ending inventory, and gross profit.

Key Terms and Formulas:

• FIFO (First-In, First-Out): Oldest costs assigned to cost of goods sold first.

• LIFO (Last-In, First-Out): Most recent costs assigned to cost of goods sold first.

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

Step-by-Step Guidance

1. Set up inventory records for each purchase and sale, tracking cost layers for both FIFO and LIFO.

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

3. Calculate total cost of goods sold and ending inventory for both methods.

4. Set up the calculation for gross profit under each method.

Try solving on your own before revealing the answer!

Final Answer:

FIFO: COGS $1,360; Ending Inventory $780; Gross Profit $2,640

LIFO: COGS $1,420; Ending Inventory $720; Gross Profit $2,580

We tracked each cost layer and applied the correct method to each sale, then calculated the totals.

Q9. Purchase Discounts and Inventory Errors

Background

Topic: Purchase Discounts and Inventory Error Effects

This question tests your ability to calculate the effects of purchase discounts and returns, and to analyze the impact of inventory errors on cost of goods sold and net income across two years.

Key Terms and Formulas:

• Purchase Discount: $\text{Discount} = (\text{Purchase} - \text{Return}) \times \text{Discount Rate}$

• Payable after Return: $\text{Purchase} - \text{Return}$

• Cash Payment: $\text{Payable} - \text{Discount}$

• Inventory Error Effects: Overstated ending inventory in Year 1 understates COGS and overstates net income; the reverse occurs in Year 2.

Step-by-Step Guidance

1. Calculate the remaining payable after the return.

2. Set up the calculation for the discount if paid within the discount period.

3. Set up the cash payment calculation for both within and after the discount period.

4. 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 return: $45,000

Discount: $900

Cash paid on day 8: $44,100

Cash paid on day 20: $45,000

Year 1: COGS understated, net income overstated; Year 2: COGS overstated, net income understated.

Q10. Depreciation Through Disposal

Background

Topic: Depreciation and Asset Disposal

This question tests your ability to calculate depreciation up to 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: $\text{Annual Depreciation} = \frac{\text{Cost} - \text{Residual Value}}{\text{Useful Life}}$

• Partial-Year Depreciation: $\text{Annual Depreciation} \times \frac{\text{Months Used}}{12}$

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

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

• DDB Depreciation: $\text{Book Value} \times \text{DDB Rate}$

Step-by-Step Guidance

1. Calculate annual straight-line depreciation for the fixtures and multiply by the fraction of the year used in the year of sale.

2. Sum depreciation for all years up to the sale to get accumulated depreciation.

3. Set up the calculation for book value at the date of sale.

4. Set up the gain or loss calculation by comparing sale proceeds to book value.

5. For the equipment, calculate first-year DDB depreciation, then set up the book value and gain/loss calculation for the sale.

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).

We calculated depreciation up to the sale, then compared book value to sale proceeds for gain or loss.