Week 3 Tutorial Solutions
Week 3 Tutorial Solutions
Week 3 Tutorial Solutions
If the transactions of an entity are to be recorded, classified and summarised into financial
statements, the accountant must be able to identify clearly the boundaries of the entity being
accounted for. Under the accounting entity assumption, the entity is considered a separate entity
distinguishable from its owner and from all other entities. It is assumed that each entity controls
its assets and incurs its liabilities. The records of assets, liabilities and business activities of the
entity are kept completely separate from those of the owner of the entity as well as from those of
other entities.
The accounting entity assumption is important since it leads to the derivation of the accounting
equation.
Under the accrual basis of accounting, the effects of transactions and events are recognised in
accounting records when they occur, and not when the cash is received or paid. Hence, financial
statements report not only on cash transactions but also on obligations to pay cash in the future
and on resources that represent receivables of cash in future. It is argued in the Conceptual
Framework that accounting on an accrual basis provides significantly better information about the
transactions and other events for the purpose of decision making by users of financial statements
than does the cash basis.
According to the Conceptual Framework, financial statements are prepared on the assumption that
the existing entity is expected to continue operating into the future. It is assumed that the assets of
the entity will not be sold off and that the entity will continue its activities; hence, liquidation
values (prices in a forced sale) of the entity’s assets are not generally reported in financial
statements, as this assumes that an entity is to be wound up.
When management plans the sale or liquidation of the entity, the going concern assumption is then
set aside and the financial statements are prepared on the basis of estimated sales or liquidation
values. The significance of the going concern assumption is in the valuation placed on the assets
of an entity in the entity’s financial statements. The statements should identify clearly the basis
upon which asset values are determined — going concern? Or liquidation?
For financial reporting purposes, it is assumed that the total life of an entity can be divided into
equal time intervals. Hence, the financial performance of the entity can be determined for a given
time period, and the financial position of the entity can be determined on the last day of that
reporting period.
As a result of this assumption, profit determination involves a process of recognising the income
for a period and deducting the expenses incurred for that same period. Together, the period
assumption and accrual basis assumption lead to the requirement for making end-of-period
adjustments on the last day of the reporting period. These adjustments will be considered in chapter
4.
Exercises
Exercise 2.10
The following schedule shows the effect of several transactions on the accounting equation
of Preya Palit and the balance of each item in the equation after each transaction. Write a
sentence to explain the nature of each transaction. (LO5)
(1) Preya Palit invested $20 000 into the business.
(3) Preya Palit invested a further $2000 into the business, OR sold services for cash.
(6) $4000 was received from clients for amounts owed (accounts receivable).
(7) Preya Palit withdrew $8000 from the business, or expense paid in cash.
Recording transactions
Non-GST version
Jones’ Mower Repairs began operations on 1 August 2019 and completed the following
transactions during the first month.
1. Darren Jones deposited $35 000 of his personal funds in a current account at a bank opened in the
name of the business.
2. Mower repair equipment was purchased at a cost of $24 000, of which $14 000 was paid in cash. A
loan payable was given for the remainder.
3. Darren collected $5000 from customers for repair services performed.
4. Shop rent was paid for the month of August, $1500.
5. Supplies amounting to $2100 were purchased on credit.
6. Wages of $1200 were paid as well as an account for electricity, $250.
7. Darren paid for the supplies purchased in (5) above.
8. Supplies used during August amounted to $750.
Required
(a) Prepare a schedule. List the following assets, liabilities and equity as column headings: Cash at
Bank; Supplies; Equipment; Loan Payable; Accounts Payable; D. Jones, Capital.
(b) Show the effects of each of the transactions on the accounts listed. Indicate totals after each
transaction and complete the schedule.
(c) Prepare an income statement and a statement of changes in equity for the month ended 31
August 2019, and a balance sheet as at 31 August 2019.
(LO3 and LO5)
(a) and (b)
(c)
EXPENSES
Rent expense $1 500
Wages expense 1 200
Electricity expense 250
Supplies used 750
3 700
PROFIT $1 300
JONES’ MOWER REPAIRS
Statement of Changes in Equity
for the month ended 31 August 2019
D. Jones, Capital – 1 August 2016 $0
Add: Capital contribution 35 000
Profit for the month 1 300
36 300
Less: Drawings during the month 0
D. Jones, Capital – 31 August 2016 $36 300
Balance Sheet
as at 31 August 2019
ASSETS
Cash at bank $20 950
Supplies 1 350
Equipment 24 000
TOTAL ASSETS $46 300
LIABILITIES
Accounts payable $—
Loan payable 10 000
TOTAL LIABILITIES 10 000
NET ASSETS $36 300
EQUITY
D. Jones, Capital $36 300
TOTAL EQUITY $36 300
Problem 2.24
The following list of items relate to the business of Jay Street Wear.
Required
(a) Identify the elements of the financial statements (asset, liability, income, expense and equity)
impacted by each of the transactions.
(b) List the cash flow classification (operating, investing or financing) and direction (inflow or outflow)
for each transaction.
(LO3, LO4 and LO5)
1. For the business, this is the initial investment by the owner. In the balance sheet of the business, asset
(cash) increases and equity increases. In the statement of cash flows, this is recorded as cash inflows
under financing activities.
2. This is an asset to the business, recorded as ‘Store Equipment’ on the balance sheet. Assuming the
racks were purchased for cash, this will be recorded as cash outflows under investing activities.
3. There is no building asset for the business here. The building does not belong to the business. In the
balance sheet, an increase in the asset for Prepaid Rent and a decrease in cash would be recorded if the
rent is paid by the business each month in advance. In the statement of cash flows, paying the rent in
advance is recorded as a cash outflow under operating activities when the payment is made. As time
passes, in the balance sheet there will be a reduction in the Prepaid Rent account for the rent that has
expired. This expired rent will then be recorded as an expense (Rent Expense) in the income statement.
4. Street wear items are Inventory to the business. In the balance sheet, inventory is recorded as an
asset. Assuming the street wear items were purchased in cash, this will be recorded as a cash outflow
under operating activities in the statement of cash flows.
5. This is recorded as liability (Accounts Payable) in the balance sheet. Nothing is recorded in the
statement of cash flows at this point. When the business pays the supplier for the amount owed, this
will be recorded as a cash outflow under operating activities in the statement of cash flows.
6. This is recorded as an increase in asset (Prepaid Insurance) in the balance sheet, as well as a decrease
in cash account. In the statement of cash flows, paying insurance premium is recorded as cash outflows
under operating activities. As the insurance expires with the passage of time, there will be a reduction in
the Prepaid Insurance account for the insurance that has expired. This expired insurance will then be
recorded as an expense (Insurance Expense) in the income statement.
7. This will be recorded as a decrease in asset (cash) and a decrease in equity (Jay’s capital) in the form
of Drawings. In the statement of cash flows, owner’s drawings are recorded as cash outflows under
financing activities.
8. This will be recorded as Wages Expense in the income statement. Wages Expense does not appear in
the balance sheet as a separate item but reduces equity by reducing profit. It also reduces the cash
balance. Paying wages to employees is recorded as cash outflows under operating activities in the
statement of cash flows.
9. Long-term borrowings are shown in the balance sheet as an increase in liability (Long-term Loan
Payable), and the cash received as an increase in asset (Cash). The cash received from this loan is also
recorded as cash inflows under financing activities.
10. Sales of merchandise to customers are recorded as Sales Income or Revenue in the income
statement. The transaction increases equity and increases Cash or Accounts Receivable. Assuming
customers pay cash for the merchandise, this will be recorded as cash inflows under operating activities
in the statement of cash flows.
11. Spare change kept in the cash register is shown in the balance sheet as an asset (Cash).
The following information relates to the business of Man Ting’s Travel Agency for
the month of June 2019:
Required
(a) Prepare general journal entries to record the above events, as appropriate, in the
accounting records of Man Ting’s Travel Agency. Ignore GST.
(a)
3 No entry required
Note: Commission income is recognised above as cash is received even though, under the
contract, the agency is not ‘entitled’ to the income until the client pays in full. An argument
could also be put with students that the total commission income of $1600 could be recorded on
6 June, when the trip is booked for the client. Questions to consider:
Has the income been ‘earned’?
Is it probable that it will be received?
[Use AASB 118 paragraph 20 (revenue from services) as a guide].
Problem 3.16
Journal entries, posting to ledger, and trial balance
Non-GST version
On 1 July 2018 Nicole Andreou opened a beauty parlour. The following transactions
occurred during the first month of operations (ignore GST).
Use the following account titles and numbers: Cash at Bank, 100; Accounts Receivable, 101;
Supplies, 102; Equipment, 103; Loan Payable, 200; Nicole Andreou, Capital, 300; Nicole
Andreou, Drawings, 301; Revenue, 400; Rent Expense, 500; Advertising Expense, 501;
Insurance Expense, 502; Telephone Expense, 503.
Required
(a) Prepare the general journal entries to record the transactions.
(b) Post the entries from the general journal to the general ledger accounts (running balance
format) and enter the posting references in the general journal.
(c) Prepare a trial balance as at 31 July 2018.
(LO3, LO4 and LO5)
(a)
General Journal
(c)