ACT111 – LECTURE REVISION – CHAPTER 5

1- Presented below is information for Pryor Company for the month of March 2022.
Cost of goods sold €232,000.
Rent expense 30,000
Freight-out 7,000
Sales discounts 8,000
Insurance expense 12,000
Sales returns and allowances 13,000
Salary expense 63,000
Sales 410,000

Required:
(a) Prepare an income statement.
(b) Compute the gross profit rate.

Solution:

1
2- Assume that Guardian Company uses a periodic inventory system and has these
account balances: Purchases $500,000; Purchase Returns and Allowances $14,000;
Purchase Discounts $9,000; and Freight-in $15,000. Determine net purchases and
cost of goods purchased.
Solution
Calculation of Net Purchases and Cost of Goods Purchased

Purchases .................................................................... $500,000

Less: Purchase returns and Allowances ..................... $14,000
Purchase discounts .......................................... 9,000 23,000
Net Purchases .............................................................. 477,000
Add: Freight-in .............................................................. 15,000
Cost of Goods Purchased ............................................ $492,000

3- Assume that Guardian Company uses a periodic inventory system and has these
account balances: Purchases $600,000; Purchase Returns and Allowances $25,000;
Purchase Discounts $11,000; and Freight-in $19,000; beginning inventory of $45,000;
ending inventory of $55,000; and net sales of $750,000. Determine the cost of goods
sold.

Solution
Inventory, beginning ..................................................... $ 45,000
Purchases .................................................................... $600,000
Less: Purchase returns and allowances...................... $25,000
Purchase discounts ........................................... 11,000 36,000
Net purchases .............................................................. 564,000
Add: Freight-in .............................................................. 19,000
Cost of goods purchased ............................................. 583,000
Cost of goods available for sale ................................... 628,000
Inventory, ending .......................................................... 55,000
Cost of goods sold........................................................ $573,000

2
4- Waller Brothers Supply uses a periodic inventory system. During May, the following
transactions and events occurred.

May 13 Purchased 6 motors at a cost of $44 each from Ord Company, terms 1/10,
n/30. The motors cost Ord Company $25 each.
May 16 Returned 1 defective motor to Ord.
May 23 Paid Ord Company in full.
Instructions
Journalize the May transactions for Waller Brothers. You may omit explanations.

Solution
May 13 Purchases ................................................................. 264
Accounts Payable .............................................. 264
May 16 Accounts Payable ...................................................... 44
Purchase Returns and Allowances .................... 44
May 23 Accounts Payable ($264 – $44) ................................ 220
Purchase Discounts ($220 × .01) ...................... 2
Cash .................................................................. 218

5- For each of the following, determine the missing amounts.

Cost of Operating
Sales Goods Sold Gross Profit Expenses Net Income
1. $100,000 ________ _________ $25,000 $10,000

2. ________ $95,000 $120,000 ________ $80,000

Solution
1. Gross Profit = $35,000 ($25,000 + $10,000)
Cost of Goods Sold = $65,000 ($100,000 – $35,000)

2. Sales = $215,000 ($95,000 + $120,000)

Operating Expenses = $40,000 ($120,000 – $80,000)

3
6- On October 1, Taylor Bicycle Store had an inventory of 20 ten speed bicycles at a cost
of $200 each. During the month of October, the following transactions occurred.

Oct. 4 Purchased 30 bicycles at a cost of $200 each from Mann Bicycle Company,
terms 2/10, n/30.
6 Sold 18 bicycles to Team America for $300 each, terms 2/10, n/30.
7 Received credit from Mann Bicycle Company for the return of 2 defective
bicycles.
13 Issued a credit memo to Team America for the return of a defective bicycle.
14 Paid Mann Bicycle Company in full, less discount.
Instructions
Prepare the journal entries to record the transactions assuming the company uses a
periodic inventory system.

Solution
Oct 4 Purchases ................................................................. 6,000
Accounts Payable .............................................. 6,000
Oct 6 Accounts Receivable……………………………………… 5,400
Sales Revenue……………………………………… 5,400
Oct 7 Accounts Payable ...................................................... 400
Purchase Returns and Allowances .................... 400
Oct 13 Sales Returns & Allowances………………………….. 300
Accounts Receivable……………………………. 300
Oct 14 Accounts Payable ($6000 – $400)............................. 5,600
Purchase Discounts ($5,600 × .02) ................... 112
Cash .................................................................. 5,488

7- Deloy Company gathered the following condensed data for the year ended December
31, 2022:

Cost of goods sold $ 690,000

Net sales 1,250,000
Administrative expenses 234,000
Interest expense 58,000
Dividend revenue 38,000
Loss from employee strike 233,000
Selling expenses 45,000

Instructions

Prepare a multiple-step income statement for the year ended December 31, 2022.

4
 DELOY COMPANY
Income Statement
For the Year Ended December 31, 2022

Net sales ............................................................ $1,250,000

Cost of goods sold.............................................. 690,000
Gross profit......................................................... 560,000
Operating expenses
Administrative expenses ............................ $234,000
Selling expenses ........................................ 45,000
Total operating expenses ................... 279,000
Income from operations...................................... 281,000
Other revenues and gains
Dividend revenue ....................................... 38,000
Other expenses and losses
Loss from employee strike ......................... $233,000
Interest expense ......................................... 58,000 291,000 253,000
Net income ......................................................... $ 28,000
8- The following information is available for Miley Company:

Administrative expenses $ 30,000

Cost of goods sold 245,000
Sales 350,000
Sales returns and allowances 15,000
Selling expenses 50,000

Instructions Compute each of the following:

(a) Net sales (b) Gross profit (c) Income from operations

Solution
(a) Net sales = $335,000 ($350,000 – $15,000)
(b) Gross profit = $90,000 ($335,000 – $245,000)
(c) Income from operations = $10,000 ($90,000 – $30,000 – $50,000)

5
9- The adjusted trial balance of Notson Company contained the following information:

Debit Credit
Sales $560,000
Sales Returns and Allowances $ 20,000
Sales Discounts 7,000
Cost of Goods Sold 386,000
Freight-out 2,000
Advertising Expense 15,000
Interest Expense 18,000
Store Salaries Expense 55,000
Utilities Expense 28,000
Depreciation Expense 7,000
Interest Revenue 30,000

Instructions Use the above information to prepare a multiple-step income statement for
the year ended December 31, 2022. Categorize the following accounts as
administrative expenses: advertising and depreciation expenses and the remaining
accounts as selling expenses.
Solution NOTSON COMPANY
Income Statement
For the Year Ended December 31, 2022
Sales revenues
Sales ................................................................. $560,000
Less: Sales returns and allowances ................. $ 20,000
Sales discounts ....................................... 7,000 27,000
Net sales ........................................................... 533,000
Cost of goods sold ............................................. 386,000
Gross profit ........................................................ 147,000
Operating expenses
Selling expenses
Store salaries expense ........................... $55,000
Advertising expense ............................... 15,000
Freight-out .............................................. 2,000
Total selling expenses ....................... 72,000
Administrative expenses
Utilities expense ...................................... 28,000
Depreciation expense ............................. 7,000
Total administrative expenses ........... 35,000
Total operating expenses ............. 107,000
Income from operations ..................................... 40,000
Other revenues and gains
Interest revenue ........................................... 30,000
Other expenses and losses
Interest expense ........................................... 18,000 12,000
Net income ..................................................... $ 52,000

6
10- The income statement of Miller, Inc. includes the items listed below:
Net sales $900,000
Gross profit 320,000
Beginning inventory 80,000
Purchase discounts 15,000
Purchase returns and allowances 8,000
Freight-in 10,000
Operating expenses 300,000
Purchases 540,000

Instructions
Use the appropriate items listed above as a basis for determining:
(a) Cost of goods sold.
(b) Cost of goods available for sale.
(c) Ending inventory.
Solution
(a) Net sales – Cost of goods sold = Gross profit
$900,000 – Cost of goods sold = $320,000
Cost of goods sold = $580,000
(b) Beginning inventory $ 80,000
Purchases $540,000
Less: Purchase discounts $15,000
Purchase returns and allowances 8,000 23,000
Net Purchases 517,000
Add: Freight-in 10,000
Cost of goods purchased 527,000
Cost of goods available for sale $607,000

(c) Cost of goods available for sale – Ending inventory = Cost of goods sold
$607,000 – Ending inventory = $580,000
Ending inventory = $27,000

7
11- Morton Supply Company uses a periodic inventory system. During September, the
following transactions and events occurred.

Sept. 3 Purchased 80 backpacks at $20 each from Cole Company, terms 2/10, n/30.
Sept. 6 Received credit of $100 for the return of 5 backpacks purchased on Sept. 3
that were defective.
Sept. 9 Sold 15 backpacks for $40 each to Starr Books, terms 2/10, n/30.
Sept. 13 Paid Cole Company in full.
Instructions
Journalize the September transactions for Morton Supply Company.
Solution
Sept. 3 Purchases ................................................................. 1,600
Accounts Payable .............................................. 1,600
Sept. 6 Accounts Payable ...................................................... 100
Purchase Returns and Allowances .................... 100
Sept. 9 Accounts Receivable ................................................. 600
Sales ................................................................. 600
Sept. 13 Accounts Payable ($1,600 – $100)............................ 1,500
Purchase Discounts ($1,500 × .02) ................... 30
Cash .................................................................. 1,470

12- The following information is available for Olson Company:

Beginning inventory $ 45,000
Ending inventory 70,000
Freight-in 10,000
Purchases 270,000
Purchase returns and allowances 8,000

Instructions
Compute each of the following:
(a) Net purchases
(b) Cost of goods purchased
(c) Cost of goods sold

8
Solution
(a) Net purchases = $262,000 ($270,000 – $8,000)
(b) Cost of goods purchased = $272,000 ($262,000 + $10,000)
(c) Cost of goods sold = $247,000 ($45,000 + $272,000 – $70,000)

13-

Solution:

9
14-

15-

10
Solution:

16- A company reported the following year-end information:

Cash $ 51,900
Short-term investments 12,000
Accounts receivable 54,000
Inventory 325,000
Prepaid expenses 17,500
Accounts payable 106,500
Wages payable 24,500
Required:
1. Explain the purpose of the acid-test ratio.
2. Calculate the acid-test ratio for this company.
3. What does the acid-test ratio reveal about this company?

Solution:
1. The acid-test ratio measures the ability of a firm to pay its current liabilities. It is a
more stringent test of liquidity as compared to the current ratio.

11
2.
Quick assets:
Cash $ 51,900
Short-term investments 12,000
Accounts receivable 54,000
Total quick assets $ 117,900
Current liabilities:
Accounts payable $ 106,500
Wages payable 24,500
$ 131,000

Quick assets/Current liabilities = $117,900/$131,000 = .90

3.
This company does not have enough quick assets to be considered in a strong
liquidity position. The company may have too much money tied up in inventory or
other less liquid current (or noncurrent) assets. Additional analyses should be
undertaken to verify or refute this apparent liquidity concern.

17-
1) The following information is available for Flanders and its two main competitors in
the industry, Sanders and Anders:
Flanders Sanders Anders

Cash $ 9,800 $ 10,500 $ 26,500

Short-term investments 6,400 8,200 12,500
Accounts receivable 12,500 8,500 14,350
Merchandise inventory 30,150 40,000 40,150
Equipment 900 6,750 2,450
Accounts payable 19,400 13,750 26,800
Salaries payable 1,200 3,500 6,250
Wages payable 600 1,200 2,150
The industry standard for the acid-test ratio is 1.

Required:
1. Calculate the acid-test ratio for each firm.
2. Rank the firms in decreasing order of liquidity.
3. Comment on Flanders’ relative liquidity position.

12
Solution:
Part 1
Flanders Sanders Anders

Cash $ 9,800 $ 10,500 $ 26,500

Short-term investments 6,400 8,200 12,500
Accounts receivable 12,500 8,500 14,350
Total quick assets $ 28,700 $ 27,200 $ 53,350
Flanders Sanders Anders

Accounts payable $ 19,400 $ 13,750 $ 26,800

Salaries payable 1,200 3,500 6,250
Wages payable 600 1,200 2,150
Total current liabilities $ 21,200 $ 18,450 $ 35,200

Flanders:
Acid-test ratio = $28,700/$21,200 = 1.35

Sanders:
Acid-test ratio = $27,200/$18,450 = 1.47

Anders:
Acid-test ratio = $53,350/$35,200 = 1.52

Part 2: Rank order:

Acid-test ratio

Anders 1.52
Sanders 1.47
Flanders 1.35
Industry average 1.00

Part 3: Flanders’ acid test ratio is behind both Anders and Sanders but is ahead of
the industry average. Overall, Flanders appears reasonably strong on liquidity.

13
18- The following information is for Barrel and its competitor Crate.

Barrel Crate
Year 1 Year 2 Year 1 Year 2
Net sales $ 347,850 $ 365,418 $ 579,750 $ 664,395
Cost of sales 121,747 146,167 318,862 312,265

Required:
1. Calculate the dollar amount of gross margin and the gross margin ratio to the
nearest percent, for each company for both years.
2. Which company had the more favorable ratio for each year?
3. Which company had the more favorable change in the gross margin ratio over this
2-year period?

Solution:

Barrel Crate
Year 1 Year 2 Year 1 Year 2
Net sales $ 347,850 $ 365,418 $ 579,750 $ 664,395
Cost of sales 121,747 146,167 318,862 312,265
Gross Margin $ 226,103 $ 219,251 $ 260,888 $ 352,130

Barrel:
Year 1: Gross profit ratio = $226,103/$347,850 = 65%
Year 2: Gross profit ratio = $219,251/$365,418 = 60%

Crate:
Year 1: Gross profit ratio = $260,888/$579,750 = 45%
Year 2: Gross profit ratio = $352,130/$664,395 = 53%

2. Barrel had the more favorable ratio for each year.

3. Crate’s gross margin ratio is increasing, while Barrel’s is decreasing. Moreover,
these changes appear significant and warrant further analysis.

14
19- From the adjusted trial balance for Brookstone Art Supplies given below, prepare a
multiple-step income statement.

Brookstone Art Supplies

Adjusted Trial Balance
December 31
Debit Credit

Cash $ 9,400

Accounts receivable 25,000

Merchandise inventory 36,000

Office supplies 900

Store equipment 75,000

Accumulated depreciation—store equipment $ 22,000

Office equipment 60,000

Accumulated depreciation—office equipment 15,000

Accounts payable 42,000

Notes payable 10,000

A. Brookstone, Capital 110,700

A. Brookstone, Withdrawals 48,000

Sales 325,000

Sales discounts 6,000

Sales returns and allowances 16,500

Cost of goods sold 195,000

Selling expenses 32,500

General and administrative expenses 19,800

Interest expense 600

Totals $ 524,700 $ 524,700

15
Solution

Brookstone Art Supplies

Income Statement
For the year ended December 31
Sales $ 325,000

Less: Sales discounts $ 6,000

Sales returns and allowances 16,500 22,500

Net sales $ 302,500

Cost of goods sold 195,000

Gross profit 107,500

Operating expenses

Selling expenses 32,500

General and administrative expenses 19,800

Total operating expenses 52,300

Income from operations 55,200

Other expenses

Interest expense 600

Net income $ 54,600

16