chapter 5 balance Flashcards
According to the balance sheet equation, which of the following statements is TRUE?
- Liabilities may be greater than the difference between assets and owner’s equity.
- The total of a firm’s liabilities and owner’s equity may exceed its total assets.
- The total assets of a company must be equal to its sources of capital.
- Owner’s equity cannot exceed current and non-current liabilities.
Correct Answer: 3
The balance sheet equation states:
ASSETS = LIABILITIES + OWNER’S EQUITY
Option (3) is correct because it is a true statement: the two sources of financing are the creditors (liabilities) and owners (owner’s equity). Therefore, total assets must be equal to these sources of capital.
Options (1) and (2) are incorrect because liabilities and owner’s equity must be equal to total assets as shown in the equation above. Option (4) is incorrect because according to the balance sheet equation, owner’s equity may be greater than current and non-current liabilities.
Cardinal Limited has three shareholders: Asviny and Bassam each own 40% of the shares while Ciara owns the remaining 20%. The retained earnings as at December 31, 20X1 were $120,000. No dividend payments or withdrawals by shareholders were made between December 31, 20X1 and December 31, 20X2. The shareholders’ equity section of the balance sheet as at December 31, 20X2 of Cardinal Limited is as follows:
Shareholders’ Equity
Shares $300,000
Retained Earnings $185,000
Cardinal Limited decided to distribute some of its 20X2 net income between the shareholders in proportion to the amount of shares they owned. Asviny and Bassam each received $26,000 in dividends before tax. If Ciara’s personal tax rate is 30%, how much will her after-tax share of the net income distributed at December 31, 20X2 be? Assume that there is no dividend tax credit.
- $9,100
- $13,000
- $6,000
- $2,600
Correct Answer: 1
Option (1) is correct because Ciara’s after-tax share of net income distributed on December 31, 20X2 is $9,100. There are two ways to calculate this. First, consider that Asviny and Bassam each received 40% of the net income, dividends distributed ($26,000 × 2). Thus, the total net income distributed was $65,000 ($52,000/0.80).
Since Ciara receives 20% of the total net income distributed or $13,000 ($65,000 × 0.20), her after‑tax share of the net income distributed is $9,100 ($13,000 × (1 – 0.3)).
The total net income distributed could also have been found by determining the increase in retained earnings from 20X0 to 20X1 ($185,000 – $120,000 = $65,000).
Ciara’s after‑tax net income would then be found as above.
Option (2) is incorrect because $13,000 is Ciara’s share of the total net income distributed before taxes.
Options (3) and (4) are incorrect because they are not the after-tax share of net income distributed to Ciara.
DOODLEBUGGY COMPANY LTD.
BALANCE SHEET
As at December 31, 20XX
ASSETS
Current Assets:
Cash
?
Accounts Receivable
$72,000
Merchandise Inventory
$57,000
Total Current Assets
$173,000
Non-Current Assets:
Land
$422,000
Machinery
?
Accumulated Depreciation
($95,000)
Total Non-Current Assets
?
TOTAL ASSETS
$992,000
LIABILITIES AND
SHAREHOLDERS’ EQUITY
Current Liabilities:
Accounts Payable – Merchandise
$82,000
Accounts Payable – Office Supplies
$14,000
Salaries Payable
$47,000
Total Current Liabilities
$143,000
Non-Current Liabilities:
Bonds Payable
$400,000
Total Liabilities
$543,000
Shareholders’ Equity:
Share Capital ($15 par value)
?
Retained Earnings
$149,000
Total Shareholders’ Equity
?
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY
?
Based on the balance sheet provided, what is the value of Doodlebuggy Company’s cash, machinery, and total non-current assets?
- Cash = $44,000, machinery = $422,000, total non-current assets = $992,000
- Cash = $44,000, machinery = $492,000, total non-current assets = $819,000
- Cash = $173,000, machinery = $492,000, total non-current assets = $422,000
- Cash = $992,000, machinery = $95,000, total non-current assets = $173,000
Correct Answer: 2
Option (2) is correct because the value is Doodlebuggy Company’s cash is $44,000, the value of its machinery is $492,000, and its total non-current assets are $819,000.
Cash is calculated as follows:
Cash = total current assets − merchandise inventory − accounts receivable
Cash = $173,000 − $57,000 − $72,000
Cash = $44,000
Machinery is calculated as follows:
Machinery = total non-current assets – accumulated depreciation – land
Machinery = $819,000 + $95,000 – $422,000
Machinery = $492,000
Total non-current assets is calculated as follows:
Total non-current assets = total assets − total current assets
Total non-current assets = $992,000 − $173,000
Total non-current assets = $819,000
Option (1) is incorrect because the stated amounts for machinery and total non-current assets are incorrect.
Option (3) is incorrect because the stated amounts for cash and total non-current assets are incorrect.
Option (4) is incorrect because the stated amounts for cash, machinery, and total non-current assets are incorrect.
DOODLEBUGGY COMPANY LTD.
BALANCE SHEET
As at December 31, 20XX
ASSETS
Current Assets:
Cash
?
Accounts Receivable
$72,000
Merchandise Inventory
$57,000
Total Current Assets
$173,000
Non-Current Assets:
Land
$422,000
Machinery
?
Accumulated Depreciation
($95,000)
Total Non-Current Assets
?
TOTAL ASSETS
$992,000
LIABILITIES AND
SHAREHOLDERS’ EQUITY
Current Liabilities:
Accounts Payable – Merchandise
$82,000
Accounts Payable – Office Supplies
$14,000
Salaries Payable
$47,000
Total Current Liabilities
$143,000
Non-Current Liabilities:
Bonds Payable
$400,000
Total Liabilities
$543,000
Shareholders’ Equity:
Share Capital ($15 par value)
?
Retained Earnings
$149,000
Total Shareholders’ Equity
?
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY
?
Based on the balance sheet provided, what is the value of Doodlebuggy Company’s share capital, total shareholders’ equity, and total liabilities and shareholders’ equity?
- Share capital = $300,000, total shareholders’ equity = $449,000, total liabilities and shareholders’ equity = $543,000
- Share capital = $235,000, total shareholders’ equity = $308,000, total liabilities and shareholders’ equity = $543,000
- Share capital = $300,000, total shareholders’ equity = $449,000, total liabilities and shareholders’ equity = $992,000
- Share capital = $260,000, total shareholders’ equity = $570,000, total liabilities and shareholders’ equity = $992,000
Correct Answer: 3
Option (3) is correct because the value of Doodlebuggy Company’s share capital is $300,000, its total shareholders’ equity is $449,000, and its total liability and shareholders’ equity is $992,000.
Share capital is calculated as follows:
Share capital = total shareholders’ equity – retained earnings
Share capital = $449,000 – $149,000
Share capital = $300,000
Total shareholders’ equity is calculated as follows:
Total shareholders’ equity = total liabilities and shareholders’ equity – total liabilities
Total shareholders’ equity = $992,000 – $543,000
Total shareholders’ equity = $449,000
Total liabilities and shareholders’ equity is calculated as follows:
Total liabilities and shareholders’ equity = total assets
Total liabilities and shareholders’ equity = $992,000
Option (1) is incorrect because total liabilities and shareholders’ equity is incorrectly stated.
Option (2) is incorrect because share capital, total shareholders’ equity, and total liabilities and shareholders’ equity are incorrectly stated.
Option (4) is incorrect because share capital and total shareholders’ equity are incorrectly statement.
Which one of the following is NOT an asset in the balance sheet statement?
- Inventory
- Prepaid expenses
- Accumulated depreciation
- Shares in another company
Correct Answer: 3
Option (3) is correct because although accumulated depreciation appears under the assets on the balance sheet, it is not an asset; rather it is a contra asset account, meaning it represents the amount of depreciation or cost allocated to the asset to date.
By accumulating depreciation separately in a contra account rather than deducting it directly from the asset account, it allows users to identify the original book value of the asset.
Option (1) is incorrect because inventory is considered to be an asset, since it is easily converted to cash.
Option (2) is incorrect because prepaid expenses are considered to be an asset, since they have yet to be consumed and represent a benefit to the company.
Option (4) is incorrect because shares in another company are considered to be an asset, since they can easily be converted to cash.
Which of the following statements regarding corporations is TRUE?
- Since 2011, a publicly traded company reports the asset value on the balance sheet at fair market value rather than depreciated cost.
- The directors are primarily liable to the shareholders.
- Shareholders own the assets of the corporation.
- Since 2011, a company whose shares are traded on a stock exchange is likely to use the Generally Accepted Accounting Principles (GAAP) when reporting its assets in its financial statements.
Correct Answer: 1
Option (1) is correct because it is a true statement.
Option (2) is incorrect because directors manage free from shareholder interference (Canada Business Corporation Act) and are primarily liable to the corporation, acting much like an agent to their principle.
Option (3) is incorrect because shareholders do not own the assets of the company; they own the shares and the rights and obligations that go with the ownership of the shares.
Option (4) is incorrect because since 2011, it is mandatory for a publicly traded company to use the International Financial Reporting Standard (IFRS), not GAAP, in preparing their financial statements and this requires that asset values on the balance sheet are reported at fair market value rather than depreciated cost.
At year end, Daisy was pleased with her operation (Daisy’s Garden Supplies) having sold 36,000 units at $36 per unit, earning a total sales revenue of $1,296,000.
However, before she can celebrate, she needs to know what she owes to Canada Revenue Agency (CRA).
The inventory account indicates a beginning inventory of $50,000, 36,000 units produced at a cost of $9 for the period, and a closing inventory balance of $185,000.
In producing this revenue, interest expenses of $45,000 and operating expenses of $112,000 were incurred. If the corporation’s after-tax net income is $785,000, what is the income tax expense recorded for the period? Assume that the aforementioned expenses are the only expenses incurred during this period.
- $205,000
- $165,000
- $155,000
- $119,000
Correct Answer: 2
Option (2) is correct because Daisy’s Garden Supplies produced and sold 36,000 units at a cost of $9 each, resulting in a recorded tax expense of $165,000. The calculations are shown as follows:
Beginning Inventory
50,000
Purchases ($9 × 36,000)
324,000
– Ending Inventory
(185,000)
= Cost of Goods Sold
$189,000
Revenue ($36 x 36,000)
$1,296,000
Expenses:
Interest payments
45,000
Operating expenses
112,000
Cost of goods sold
189,000
Income tax expense
?
= After Tax Net Income
$785,000
Revenue – (Expenses) – After Tax Net Income = Income Tax Expense
$1,296,000 – ($45,000 + $112,000 + $189,000) – $785,000 = $165,000
Options (1), (3), and (4) are incorrect because they do not show the correct income tax expense amount.
