Fill-in-the-Blank Equations. Exercises

Chapter 10 Liabilities: Current, Installment Notes, Contingencies Study Guide Solutions 1. Deductions 2. Working capital 3. Current ratio 4. Quick ratio Fill-in-the-Blank Equations Exercises 1. School Tools recently purchased inventory from one of its largest suppliers. The company receives an invoice, which states the credit terms 2/10, n/30. Is the liability an example of an account payable, short-term notes payable, or current portion of longterm debt? Account payable 2. Peach Tree Inc. recently rebounded from financial troubles. To satisfy an overdue liability owed to an equipment supplier, the company issued a liability to satisfy the debt at a later date, which also bears interest at a 9% annual rate. Is the newly issued liability an example of an account payable, short-term notes payable, or current portion of longterm debt? Short-term notes payable 3. Pet Supply Co. incurred 10-year notes payable when constructing its newest office. The notes totaled $2.1 million, but in the upcoming year the company plans to pay $250,000 to the creditor. Is the $250,000 an example of an account payable, current portion of long-term debt, or short-term notes payable? Current portion of long-term debt Strategy: Accounts payable involve a variety of purchases on account, such as the purchase of merchandise and supplies. Short-term notes payable may also be issued to purchase merchandise or to pay off creditors for an accounts payable that was previously established. Short-term notes payable differ from accounts payable in that they usually have a longer credit term than accounts payable and bear interest for the time issued. Since long-term debt is usually a large amount, companies may pay the amount owed in installments over periods of time, which are the current portion if expected to be paid within one year. 1

2 Chapter 10 4. To satisfy $3,570 of an overdue account payable owed to Collar Co., Pet Supply Co. issued a 90-day, 10% note payable on July 1. Prepare the journal entry to record the following: a. Issuance of the note July 1 Accounts Payable Collar Co. 3,570 Notes Payable 3,570 b. Payment of the note and any interest owed (round interest to the nearest whole dollar) Sept. 30 Notes Payable 3,570 Interest Expense 89 Cash 3,659 Interest expense = $3,570 10% 90/360 5. When purchasing equipment, Bed Threads Inc. issued a 120-day, 15% note payable on March 1. The purchased equipment cost $6,525. Prepare the journal entry to record the following: a. Issuance of the note Mar. 1 Equipment 6,525 Notes Payable 6,525 b. Payment of the note and any interest owed (round interest to the nearest whole dollar) June 30 Notes Payable 6,525 Interest Expense 326 Cash 6,851 Interest expense = $6,525 15% 120/360

Liabilities: Current, Installment Notes, Contingencies 3 6. On August 1, School Tools received $3,500 in cash from the bank in exchange for a 60- day, 14% note payable. Prepare the journal entry to record the following: a. Issuance of the note Aug. 1 Cash 3,500 Notes Payable 3,500 b. Payment of the note and any interest owed (round interest to the nearest whole dollar) Nov. 30 Notes Payable 3,500 Interest Expense 82 Cash 3,582 Interest expense = $3,500 14% 60/360 Strategy: When issuing a note payable, the company should credit the liability for the amount payable and debit the corresponding account, to show an increase in the asset or decrease in the liability. Upon payment, the company will remove the liability by debiting the note payable, debiting Interest Expense for the amount incurred, and crediting Cash for the interest paid and face amount of the note. 7. Mountain Time borrowed cash from its local bank by issuing a 90-day note with a $3,500 face amount. The note is discounted at 6% and issued on June 1. a. Determine the proceeds of the note (round interest to the nearest whole dollar). $3,447; $3,500 ($3,500 6% 90/360) b. Prepare the journal entry to record the issuance of the note. June 1 Cash 3,447 Interest Expense 53 Notes Payable 3,500 c. Prepare the journal entry to record the payment of the note. Aug. 30 Notes Payable 3,500 Cash 3,500

4 Chapter 10 8. Palmetto Charms borrowed cash from its bank in exchange for a 60-day note on April 1. The note is discounted at 7% and has a face amount of $6,750. a. Determine the proceeds of the note (round interest to the nearest whole dollar). $6,671; $6,750 ($6,750 7% 60/360) b. Prepare the journal entry to record the issuance of the note. Apr. 1 Cash 6,671 Interest Expense 79 Notes Payable 6,750 c. Prepare the journal entry to record the payment of the note. May 31 Notes Payable 6,750 Cash 6,750 9. School Tools issued a note payable to its bank in exchange for cash on July 1. The 120- day note has a $9,500 face amount and is discounted at 9%. a. Determine the proceeds of the note (round interest to the nearest whole dollar). $9,215; $9,500 ($9,500 9% 120/360) b. Prepare the journal entry to record the issuance of the note. July 1 Cash 9,215 Interest Expense 285 Notes Payable 9,500 c. Prepare the journal entry to record the payment of the note. Oct. 29 Notes Payable 9,500 Cash 9,500 Strategy: When issuing a discounted note, a business is essentially paying the interest at the beginning of the note by receiving less cash than the face amount of the note. To calculate interest expense, determine the interest that will accrue on the note for the time period. The proceeds received from the note are the face amount less the interest paid. Since the business receives less cash when issuing the note, the interest expense should also be recorded upon issuance. When paying the note, the business gives the creditor cash for the full face amount and removes the note from its books by debiting Notes Payable.

Liabilities: Current, Installment Notes, Contingencies 5 10. Cody Smith s weekly gross earnings for the week ended September 15 were $3,150, and his federal income tax withholding was $713.24. Assuming the social security rate is 6% and Medicare is 1.5% of all earnings, what is Smith s net pay? Gross earnings for the week $3,150.00 Deductions: Federal income tax withholding $713.24 Social security tax ($3,150 6%) 189.00 Medicare tax ($3,150 1.5%) 47.25 Total deductions 949.49 Net pay $2,200.51 11. Kim Akinson s weekly gross earnings for the week ended April 28 were $6,900, and her federal income tax withholding was $1,605.51. Assume the social security rate is 6% and Medicare is 1.5% of all earnings. She also makes a 1% contribution of her gross earnings to her retirement fund. Calculate Akinson s net pay. Gross earnings for the week $6,900.00 Deductions: Federal income tax withholding $1,605.51 Social security tax ($6,900 6%) 414.00 Medicare tax ($6,900 1.5%) 103.50 Retirement savings ($6,900 1%) 69.00 Total deductions 2,192.01 Net pay $4,707.99

6 Chapter 10 12. Judy Allen earns $18 per hour and 1½ times that rate for all hours in excess of 40 per week. Allen worked 44 hours during the week ended July 10. Assuming that the social security rate is 6%, the Medicare tax rate is 1.5%, and Allen s federal income tax withheld is $97.73, what is her net pay? Gross earnings for the week $828.00 Deductions: Federal income tax withholding $97.73 Social security tax ($4,750 6%) 49.68 Medicare tax ($4,750 1.5%) 12.42 Total deductions 159.85 Net pay $668.15 Strategy: Net pay is determined by subtracting the deductions for the period from the total wages. First, calculate the deductions using the information given, if the deductions are a percentage of total wages. Total the deductions and subtract the sum from the total wage payment to arrive at net pay. 13. The payroll register of Serenity Co. indicates $4,920 of social security withheld and $1,230 of Medicare tax withheld on total salaries of $82,000 for the period. Federal withholding for the period totaled $13,960. Retirement savings withheld from employee paychecks were $2,000 for the period. Journalize the entry to record the period s payroll. Salaries Expense 82,000 Social Security Tax Payable 4,920 Medicare Tax Payable 1,230 Employees Federal Income Tax Payable 13,960 Retirement Contributions Payable 2,000 Salaries Payable 59,890

Liabilities: Current, Installment Notes, Contingencies 7 14. The payroll register of Charisma Charms Inc. indicates $4,140 of social security withheld and $1,035 of Medicare tax withheld on total salaries of $69,000 for the period. Earnings of $10,000 are subject to state and federal unemployment compensation taxes at the federal rate of 0.8% and the state rate of 5.4%. Journalize the entry to record the payroll tax expense for the period. Payroll Tax Expense 5,795 Social Security Tax Payable 4,140 Medicare Tax Payable 1,035 State Unemployment Tax Payable ($10,000 5.4%) 540 Federal Unemployment Tax Payable ($10,000 0.8%) 80

8 Chapter 10 15. In the following summary of data for a payroll period, some amounts have been intentionally omitted: Earnings: 1. At regular rate? 2. At overtime rate $ 60,000.00 3. Total earnings? Deductions: 4. Social security tax 32,161.50 5. Medicare tax 8,040.38 6. Federal income tax withheld 165,941.00 7. Medical insurance? 8. Union dues 10,200.00 9. Total deductions 239,017.88 10. Net amount paid 297,007.12 Accounts debited: 11. Sales Salaries 338,000.00 12. Office Salaries? a. Calculate the amounts omitted in lines (1), (3), (7), and (12). (1) $476,025.00; $536,025.00 $60,000.00 (3) $536,025.00*; $297,007.12 + $239,017.88 *Line (3) must be computed before Line (1) can be determined. (7) $22,675.00; $239,017.88 $32,161.50 $8,040.38 $165,941.00 $10,200.00 (12) $198,025.00; $536,025.00 $338,000.00 b. Journalize the entry to record the payroll for the period. Sales Salaries Expense 338,000.00 Office Salaries Expense 198,025.00 Social Security Tax Payable 32,161.50 Medicare Tax Payable 8,040.38 Employees Federal Income Tax Payable 165,941.00 Medical Insurance Payable 22,675.00 Union Dues Payable 10,200.00 Salaries Payable 297,007.12 c. Journalize the entry to record the payment of the payroll. Salaries Payable 297,007.12 Cash 297,007.12

Liabilities: Current, Installment Notes, Contingencies 9 Strategy: Payroll liabilities include those for employee earnings and employer s payroll taxes. To record payroll, a debit is made to the salaries expense account(s). Credits are made to each of the mandatory tax liability accounts for social security tax, Medicare tax, and income tax withheld, and to each of the voluntary tax liability accounts, such as for retirement contributions and medical insurance. Salaries Payable is then credited for the amount of net pay, or gross earnings less total deductions. Once the employer pays the payroll, a journal entry debiting Salaries Payable and crediting Cash is made. The journal to record the payroll tax expense includes a debit to Payroll Tax Expense for the total payroll tax amount and a credit to each of the tax liability accounts. 16. Palmetto Sporting Goods gives each of its employees 10 days of paid vacation time per year. The company estimates the vacation pay for the fiscal year ending on September 30 is $275,000. Prepare the journal entry to record the vacation pay expense. Sept. 30 Vacation Pay Expense 275,000 Vacation Pay Payable 275,000 17. Mountain Time gives its 30 employees one day per month of paid vacation time. The company estimates the average daily wage for an employee is $200. Prepare the journal entry as of the calendar year-end to record the vacation pay expense. Dec. 31 Vacation Pay Expense 72,000 Vacation Pay Payable 72,000 Vacation pay expense = 30 employees 12 days per year $200 per day

10 Chapter 10 18. RPC Helpers has 250 employees that earn on average a daily salary of $275. The company gives each employee 15 vacation days per year. Prepare the journal entry to record the vacation pay expense for the fiscal year ending on March 31. Mar. 31 Vacation Pay Expense 1,031,250 Vacation Pay Payable 1,031,250 Vacation pay expense = 250 employees 15 days per year $275 per day Strategy: The vacation pay expense is estimated by the company, which also creates the vacation pay payable. The expense should be recorded in the period that the employees earned the vacation pay. The company must record the payable since it may not pay the employees at the same time as recording the expense. Upon payment to the employees, the payable will be reduced. 19. Pet Supply Co. provides a defined contribution pension plan for all employees. The company promises to contribute 7.5% of gross earnings to the pension. During the month of March, employees earned gross earnings of $450,750. Prepare the journal entry to record the expense. Mar. 31 Pension Expense 33,806.25 Cash 33,806.25 Pension expense = $450,750 7.5% 20. Bed Threads Inc. provides a defined contribution pension plan for all employees. The company agrees to contribute 11% of monthly gross earnings to the pension. For the month of May, Bed Threads Inc. records a journal entry that credits Salaries Payable for $14,900. Deductions for the month s salaries totaled $675. Prepare the journal entry to record the expense. May 31 Pension Expense 1,713.25 Cash 1,713.25 Pension expense = ($14,900 + $675) 11%

Liabilities: Current, Installment Notes, Contingencies 11 21. Tammy s Sites provides a defined contribution pension plan for all employees. The company promises to contribute 10% of monthly gross salaries to the pension. During the month of September, employees received $225,700, after withholdings. Withholdings and deductions totaled $10,200 for the month. Prepare the journal entry to record the expense. Sept. 30 Pension Expense 23,590 Cash 23,590 Pension expense = ($225,700 + $10,200) 10% Strategy: Under a defined contribution pension plan, the employer contributes cash to the pension based upon a fixed amount, which is usually a percentage of the salaries paid. The amount contributed to the plan is equal to the pension expense for the period. 22. Pet Supply Co. has a defined benefit pension plan for all employees who have worked with the company for at least 15 years. The plan requires an annual contribution of $67,500. On December 31, the company contributes the entire cost to the fund. Prepare the journal entry to record the cost of the fund. Dec. 31 Pension Expense 67,500 Cash 67,500 23. Assume that Pet Supply Co. only contributes $39,200 of the required annual contribution of $67,500 for the defined benefit pension plan. Prepare the journal entry to record the cost of the fund. Dec. 31 Pension Expense 67,500 Cash 39,200 Underfunded Pension Liability 28,300 24. Bed Threads Inc. s defined benefit pension plan requires an annual contribution of $52,750. On the last day of its fiscal year, the company contributes $40,750 to the pension plan. Prepare the journal entry to record the cost of the fund on March 31. Mar. 31 Pension Expense 52,750 Cash 40,750 Underfunded Pension Liability 12,000

12 Chapter 10 Strategy: Under a defined benefit pension plan, the pension expense is determined based on a formula. The company pays an amount of cash each year, which may differ from the actual cost for the year. If the cash paid is less than the cost, the pension will be underfunded, creating a liability for the company. To book the liability, the company should credit Underfunded Pension Liability. 25. In exchange for $120,000 cash, Blodgett Express issued a 12% note payable that requires six annual payments of $29,187. Prepare a schedule of periodic payments for the installment note, which was issued on January 1, 20Y4, rounding amounts to two decimal places. The annual payments begin on December 31, 20Y4. For the Year Ending Dec. 31 Jan. 1 Carrying Amount Note Payment Interest Expense (Carrying Amount 12%) Decrease in Notes Payable Dec. 31 Carrying Amount 20Y4 $120,000.00 $29,187.00 $14,400.00 $14,787.00 $105,213.00 20Y5 105,213.00 29,187.00 12,625.56 16,561.44 88,651.56 20Y6 88,651.56 29,187.00 10,638.19 18,548.81 70,102.75 20Y7 70,102.75 29,187.00 8,412.33 20,774.67 49,328.08 20Y8 49,328.08 29,187.00 5,919.37 23,267.63 26,060.45 20Y9 26,060.45 29,187.00 3,127.25 26,059.75 Approx. 0 26. Use the information from Exercise 25 to prepare the journal entries to record the issuance of the note and payment for the first two years. Jan. 1, 20Y4 Cash 120,000.00 Notes Payable 120,000.00 Dec. 31, 20Y4 Interest Expense 14,400.00 Notes Payable 14,787.00 Cash 29,187.00 Dec. 31, 20Y5 Interest Expense 12,625.56 Notes Payable 16,561.44 Cash 29,187.00

Liabilities: Current, Installment Notes, Contingencies 13 27. A corporation issues a 12% installment note for $500,000 cash at the beginning of its fiscal year, April 1, 20Y4. The note requires 10 semiannual payments of $67,934 every September 30 and March 31, which begin the same year. Prepare a schedule of periodic payments for the installment note. Round amounts to two decimal places. For the Period Ending Apr. 1 Carrying Amount Note Payment Interest Expense (Carrying Amount 12% ½) Decrease in Notes Payable Mar. 31 Carrying Amount Sept. 30, 20Y4 $500,000.00 $67,934.00 $30,000.00 $37,934.00 $462,066.00 Mar. 31, 20Y5 462,066.00 67,934.00 27,723.96 40,210.04 421,855.96 Sept. 30, 20Y5 421,855.96 67,934.00 25,311.36 42,622.64 379,233.32 Mar. 31, 20Y6 379,233.32 67,934.00 22,754.00 45,180.00 334,053.32 Sept. 30, 20Y6 334,053.32 67,934.00 20,043.20 47,890.80 286,162.52 Mar. 31, 20Y7 286,162.52 67,934.00 17,169.75 50,764.25 235,398.27 Sept. 30, 20Y7 235,398.27 67,934.00 14,123.90 53,810.10 181,588.16 Mar. 31, 20Y8 181,588.16 67,934.00 10,895.29 57,038.71 124,549.45 Sept. 30, 20Y8 124,549.45 67,934.00 7,472.97 60,461.03 64,088.42 Mar. 31, 20Y9 64,088.42 67,934.00 3,845.31 64,088.69 Approx. 0 25. Use the information from Exercise 27 to prepare the journal entries required for the installment note over the first fiscal year. Apr. 1, 20Y4 Cash 500,000.00 Notes Payable 500,000.00 Sept. 30, 20Y4 Interest Expense 30,000.00 Notes Payable 37,934.00 Cash 67,934.00 Mar. 31, 20Y5 Interest Expense 27,723.96 Notes Payable 40,210.04 Cash 67,934.00

14 Chapter 10 26. On January 1, 20Y5, Allen Ales issued a 6% installment note for $100,000 in cash. The note requires five annual payments of $23,739.64, which are due beginning December 31, 20Y5. Prepare a schedule of periodic payments for the installment note. Round amounts to two decimal places. For the Year Ending Dec. 31 Jan. 1 Carrying Amount Note Payment Interest Expense (Carrying Amount 6%) Decrease in Notes Payable Dec. 31 Carrying Amount 20Y5 $100,000.00 $23,739.64 $6,000.00 $17,739.64 $82,260.36 20Y6 82,260.36 23,739.64 4,935.62 18,804.02 63,456.34 20Y7 63,456.34 23,739.64 3,807.38 19,932.26 43,524.08 20Y8 43,524.08 23,739.64 2,611.44 21,128.20 22,395.88 20Y9 22,395.88 23,739.64 1,343.75 22,395.89 0* *Difference due to rounding Strategy: A schedule of periodic payments shows in detail the amount of interest expense and decrease in principal of the note that should be recorded each period. The note payment remains constant over the life of the note, but interest expense changes, which also changes the amount of principal paid each period. Interest expense is calculated by multiplying the contract rate by the carrying amount at the beginning of the period. The difference between the note payment and payment of interest is the amount of principal paid. 27. Using the information from Exercise 29, prepare the journal entries required for the installment note during the 20Y5 fiscal year. Jan. 1 Cash 100,000.00 Notes Payable 100,000.00 Dec. 31 Interest Expense 6,000.00 Notes Payable 17,739.64 Cash 23,739.64 Strategy: When issuing an installment note, debit Cash for the amount received, which is also the same amount of the note payable to record (credit to increase the account). An annual payment includes payment of the principal and interest; therefore, Interest Expense and Notes Payable should both be debited to record the payment of interest and reduction in the liability.

Liabilities: Current, Installment Notes, Contingencies 15 31. A customer of Surfing Sid s brings a lawsuit against the company on December 15, 20Y5. By the calendar year-end, the company s lawyer expects that there is a reasonably possible chance the plaintiff will win the suit. a. What is the correct accounting treatment for 20Y5? Disclose the liability in the notes. b. If the lawsuit is still open by the 20Y6 year-end but now with a remote possibility, what is the correct accounting treatment for this year? None; there is a remote possibility of the company paying the settlement. 32. A competitor of Nana s Bakeshop brings a suit against the company during the 20Y5 fiscal year. By year-end, the suit is still open. The company s lawyer expects that the competitor will probably win but is unable to estimate an amount. a. What is the correct accounting treatment for 20Y5? Disclose the liability in the notes. b. By the 20Y6 year-end, the suit is still open. However, the lawyer now expects Nana s Bakeshop to pay $62,600 to the competitor upon settlement. What is the correct accounting treatment for this year? Record the estimated $62,600 liability and disclose it in the notes. 33. A competitor of Surfing Sid s files a lawsuit for $32,500 against the company in 20Y5. By the year-end, the lawsuit has not been settled, but the lawyer believes there is a remote possibility the competitor will win. What is the correct accounting treatment for the contingent liability? None; there is a remote possibility of the company paying the settlement. Strategy: A contingent liability has three possibilities of occurring: probably, reasonably possible, and remote. If a liability has a remote possibility, the company does not need to record a liability or disclose it in the notes. If a liability is reasonably possible, it should be disclosed in the notes, since the company should warn the stakeholders. If the liability is probable, the company should disclose the liability in the notes to alert the stakeholders. If the liability is estimable, the amount of the liability should be recorded, since stakeholders also would like to see how the liability will affect the financial statements.

16 Chapter 10 34. During March, Equipped has sales of $75,400. All products sold have a 12-month warranty for repairs. The company estimates the average cost of repairs to be 3% of the sales price. Prepare the journal entry to record the warranty expense for the month of March. Mar. 31 Product Warranty Expense 2,262 Product Warranty Payable 2,262 Product warranty expense = $75,400 3% 35. On July 15, Equipped repairs a customer s merchandise that was purchased in March. To repair the merchandise, the company uses $50 of supplies and incurs labor charges of $75. Prepare the journal entry to record the repair of the merchandise. July 15 Product Warranty Payable 125 Supplies 50 Wages Payable 75

Liabilities: Current, Installment Notes, Contingencies 17 36. Equipped makes total sales of Product A of $320,500 for the month of October and total sales of Product B of $100,700. Both products have a 24-month warranty. The company estimates that Product A s warranty will cost 5% of the sales price, while Product B s warranty will cost 7% of the sales price. a. Prepare the journal entry to record the product warranty expense for the month. Oct. 31 Product Warranty Expense 23,074 Product Warranty Payable Product A 16,025 Product Warranty Payable Product B 7,049 Product warranty expense = ($320,500 5%) + ($100,700 7%) b. During the month of November, the company uses $1,400 of supplies to repair Product A and $900 of supplies to repair Product B. Prepare the journal entries to record the repairs. Nov. 30 Product Warranty Payable Product A 1,400 Supplies 1,400 Nov. 30 Product Warranty Payable Product B 900 Supplies 900 Strategy: When recording product warranty expense, the company must also book the contingent liability, product warranty payable, because the liability is probable and reasonably estimable. Since most companies book the expense and liability as an estimate based on a percentage of sales, calculate the expense by multiplying the percentage times the sales revenue. Once the contingency occurs, the liability should be decreased by debiting the payable, and the asset used for the repair should be decreased by crediting the account. 37. Bailey s Gift Shop has the following account balances. Determine if the liability will be recorded as current or long-term on the balance sheet as of December 31, 20Y7. a. Current b. Current c. Long-term

18 Chapter 10 38. Fix-It Electronics has the following account balances as of its 20Y7 calendar year-end: Accounts Payable, $14,260; Notes Payable (due in six months), $2,500; Salaries Payable, $28,750; Wages Payable, $9,770; Payroll Taxes Payable, $8,275; Interest Payable, $30,400; and Notes Payable (due in 24 months), $100,000. Prepare the liabilities section of Fix-It Electronics balance sheet, ignoring any other accounts the company may have. Fix-It Electronics Balance Sheet December 31, 20Y7 Liabilities Current liabilities: Accounts payable $14,260 Notes payable 2,500 Salaries payable 28,750 Wages payable 9,770 Payroll taxes payable 8,275 Interest payable 30,400 Total current liabilities $ 93,955 Long-term liabilities: Notes payable $100,000

Liabilities: Current, Installment Notes, Contingencies 19 39. Paradise Salon & Spa has the following account balances as of March 31, 20Y7: Notes Payable (due in December 20Y7), $1,500; Salaries Payable, $29,500; Notes Payable (due in September 20Y8), $5,000; Accounts Payable, $10,500; Payroll Taxes Payable, $7,500; and Interest Payable, $21,340. Prepare the liabilities section of Paradise Salon & Spa s balance sheet for the March 31, 20Y7, fiscal year, ignoring any other accounts the company may have. Paradise Salon & Spa Balance Sheet March 31, 20Y7 Liabilities Current liabilities: Accounts payable $10,500 Notes payable 1,500 Salaries payable 29,500 Payroll taxes payable 7,500 Interest payable 21,340 Total current liabilities $70,340 Long-term liabilities: Notes payable $ 5,000 Strategy: Accounts payable, accruals, notes payable, the current portion of installment notes payable, and any other debts that are due within one year are reported as current liabilities on the balance sheet. Any remaining installment notes payable or other debts are reported as long-term liabilities. 40. Mel Corp. has current assets of $3,550 and current liabilities of $4,220. Calculate the working capital and current ratio, rounding to one decimal place. What do these numbers indicate? Working capital: $(670) = $3,550 $4,220 Current ratio: 0.8 = $3,550 $4,220 A negative working capital and current ratio less than 1.0 indicate that the company does not have enough current assets on hand to pay its current liabilities.

20 Chapter 10 41. Use the information in the table to calculate the working capital and current ratio for 20Y5 and 20Y6. Round answers to one decimal place. Determine if the change is favorable or unfavorable. 20Y6 20Y5 Current assets $20,930 $16,789 Current liabilities 18,700 14,320 Working capital 2,230 2,469 Current ratio 1.1 1.2 ($20,930 $18,700) ($16,789 $14,320) The decreases in both the working capital and current ratio are unfavorable trends. 42. Harbor Time has total assets of $5,970 and current liabilities of $4,930. The company s only fixed asset is the machine recorded at $1,200. Calculate the company s working capital and current ratio. Round answers to one decimal place. Does the company have plenty of current assets to pay its current liabilities? Working capital: $(160) = ($5,970 $1,200) $4,930 Current ratio: 1.0 = ($5,970 $1,200) $4,930 Since the current ratio is 1, the company has minimally sufficient current assets to pay its current liabilities. Strategy: Calculate working capital by subtracting current liabilities from current assets. If working capital is negative, the company has more current liabilities than current assets, and the company would be unable to pay its current liabilities using current assets at that point in time. Current ratio is found by dividing current assets by current liabilities. The current ratio is the number of times that a company can pay its current liabilities using funds from its current assets. If the current ratio is less than 1.0, the company would not be able to pay its current liabilities using only funds from the current assets at that time, and the opposite if the ratio is greater than 1.0.

Liabilities: Current, Installment Notes, Contingencies 21 43. Use the information below taken from Mel Corp. s balance sheet to calculate the company s quick ratio for 20Y5 and 20Y6. Round answers to one decimal place. Does the change indicate a favorable or an unfavorable trend? 20Y6 20Y5 Current assets: Cash $775 $890 Treasury bills 225 200 Accounts receivable 910 975 Inventory 400 325 Current liabilities: Accounts payable $690 $550 Short-term note payable 100 230 Quick ratio 2.4 2.6 ($775 + $225 + $910) ($690 + $100) ($890 + $200 + $975) ($550 + $230) The decrease in the quick ratio is an unfavorable trend. 44. Equipped has total liabilities of $8,750 on its balance sheet at its fiscal year-end. The long-term liabilities include a bond payable for $2,150 and a note payable for $975. The company s current assets include cash, $1,790; cash equivalents, $420; short-term notes receivable (due in 60 days), $1,700; accounts receivable, $2,825; and inventory, $1,100. Calculate the quick ratio for the company. Round answers to one decimal place. Does the company have enough quick assets to pay its current liabilities in a short period of time? 1.2 = ($1,790 + $420 + $1,700 + $2,825) ($8,750 $2,150 $975) Since the quick ratio is above 1.0, the company does have enough quick assets to pay its current liabilities in a short period of time.

22 Chapter 10 45. Use the information below to calculate the quick ratio for the two companies. Round answers to one decimal place. Which company is in a better position to pay its current liabilities if necessary in a short period of time? A Corp. B Corp. Current assets: Cash $1,060 $325 Commercial paper 390 75 Accounts receivable 410 125 Inventory 685 350 Current liabilities: Accounts payable $ 720 $165 Short-term note payable 220 90 Quick ratio 2.0 2.1 B Corp. is in a better position to pay its current liabilities because it has a higher quick ratio. Strategy: To calculate the quick ratio, add all quick assets, which include any assets the company should be able to turn into cash easily, such as selling the cash equivalents or accounts receivable. Divide the quick assets by current liabilities to calculate the quick ratio. The higher the ratio, the better position the company is in to pay its current liabilities with its quick assets. If the ratio is less than 1.0, the company must use funds other than quick assets to pay its current liabilities at that point in time.