PA10-1 Determining Financial Effects of Transactions Affecting Current Liabiliti
ID: 2508055 • Letter: P
Question
PA10-1 Determining Financial Effects of Transactions Affecting Current Liabilities with Evaluation of Effects on the Quick Ratio [LO2, LO5] Jack Hammer Company completed the fallawing transactions during 2014. The annual accounting period ends December 31, 2014 Received S550,000 from Cammerce Bank after signing a 12-month, 6 percent, promissory Apr. 30 note June 6 July 15 Paid for the June 6 purchase Purchased merchandise on account at a cost of $75,000. (Assume a perpetual inventory system.) Aug. 31 Signed a contract to provide security services to a small apartment complex and collected six months'fees in advance, amounting to $12,000. (Use an account called Uneamed Service Revenue.) Determined salary and wages of $40,000 were eamed but not yet paid as of December 31 (ignore payroll taxes). Dec. 31 Dec. 31 Adjusted the accounts at year-end, relating to interest. Dec. 31 Adjusted the accounts at year-end, relating to security services. Required 1. For each listed transaction and related adjusting entry, indicate the accounts, amounts, and effects on the accounting equation, using the following format: Shareholders' Equi Date April 30, 2014 June 6, 2014 July 15, 2014 Aug. 31, 2014 Dec. 31, 2014 Dec. 31, 2014 Dec. 31, 2014 Assets Liabilities 2. For each item, state whether the quick ratio is increased, decreased, or there is no change. (Assume Jack Hammer's quick ratio is greater than 1.0.) Transaction April 30 June 6 July 15 August 31 EffectExplanation / Answer
Solution (1):
Date
Assets
=
Liability
+
Shareholders’ Equity
April 30,2014
Cash
+ $ 550,000
=
Notes Payable
+ $ 550,000
+
NA
NA
June 6, 2014
Inventory
+ $ 75,000
=
Accounts Payable
+ $ 75,000
+
NA
NA
July 15, 2014
Cash
- $ 75,000
=
Accounts Payable
- $ 75,000
+
NA
NA
August 31, 2014
Cash
+ $ 12,000
=
Unearned service revenue
+ $ 12,000
+
NA
NA
Dec. 31, 2014
NA
NA
=
Salaries and wages payable
+ $ 40,000
+
Salaries and wages expenses
- $ 40,000
Dec. 31, 2014
NA
NA
=
Interest payable
+ $ 22,000
+
*Interest expense
- $ 22,000
Dec. 31, 2014
NA
NA
=
Unearned revenue
- $ 12,000
+
Service revenue
+$ 12,000
Dec. 31
*Interest Expense= ($22,000 = $550,000 × 6% × 8/12)
**Unearned Revenue= ($8,000 = $12,000 × 4/6)
Solution (2): Existing Quick Ratio= Greater than 1.0
Let’s assume a situation for identifying effect of transaction on quick ratio. It is given that Quick ratio is greater than 1.0. It means quick assets are greater than current liabilities.
Quick assets are current assets excluding inventory and prepaid expenses.
Quick Ratio = Quick assets / Current Liabilities
Suppose: Quick Ratio is 1.2 = $ 120,000 / $ 100,000
Transaction
Effect
April 30,2014
No effect.
Reason: Quick assets and current liabilities are increased with same amount that is $ 550,000; There will be no effect in quick ratio.
June 6, 2014
Decrease.
Reason: Inventory is not included in quick assets and current liabilities are increased with $ 75,000. So, quick ratio will decrease.
Illustration: On the basis of amount supposed:
Quick Ratio = $ 120,000 / $ 100,000 + $ 75,000
=0.68 (reduced to 0.68 from 1.2)
July 15, 2014
Increase.
Reason: Quick assets and current liabilities are decreased with same amount that is $ 75,000; There will be increase in quick ratio.
Illustration: On the basis of amount supposed:
Quick Ratio = $ 120,000 -$ 75,000 / $ 100,000 -$ 75,000
= $ 45,000 / $ 25,000
=1.8 (Increased from 1.2 to 1.8)
August 31, 2014
No effect.
Reason: Quick assets and current liabilities are increased with same amount that is $ 12,000; There will be no effect in quick ratio.
Dec. 31, 2014
Decrease.
Reason: Quick assets remain same and current liabilities are increased by $ 40,000; There will be decrease in quick ratio.
Illustration: On the basis of amount supposed:
Quick Ratio = $ 120,000 / $ 100,000 + $ 40,000
= $ 120,000 / $ 140,000
=0.85 (Decreased from 1.2 to 0.85)
Dec. 31, 2014
Decrease.
Reason: Quick assets remain same and current liabilities are increased by $ 22,000; There will be decrease in quick ratio.
Illustration: On the basis of amount supposed:
Quick Ratio = $ 120,000 / $ 100,000 + $ 22,000
= $ 120,000 / $ 122,000
=0.98 (Decreased from 1.2 to 0.98)
Dec. 31, 2014
Increase.
Reason: Quick assets remain same and current liabilities are decreased by $ 12,000; There will be increase in quick ratio.
Illustration: On the basis of amount supposed:
Quick Ratio = $ 120,000 / $ 100,000 -$ 12,000
= $ 120,000 / $ 88,000
=1.36 (Increased from 1.2 to 1.36)
Date
Assets
=
Liability
+
Shareholders’ Equity
April 30,2014
Cash
+ $ 550,000
=
Notes Payable
+ $ 550,000
+
NA
NA
June 6, 2014
Inventory
+ $ 75,000
=
Accounts Payable
+ $ 75,000
+
NA
NA
July 15, 2014
Cash
- $ 75,000
=
Accounts Payable
- $ 75,000
+
NA
NA
August 31, 2014
Cash
+ $ 12,000
=
Unearned service revenue
+ $ 12,000
+
NA
NA
Dec. 31, 2014
NA
NA
=
Salaries and wages payable
+ $ 40,000
+
Salaries and wages expenses
- $ 40,000
Dec. 31, 2014
NA
NA
=
Interest payable
+ $ 22,000
+
*Interest expense
- $ 22,000
Dec. 31, 2014
NA
NA
=
Unearned revenue
- $ 12,000
+
Service revenue
+$ 12,000
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