(BQ) Part 2 book Financial accounting has contents: Investments in property, plant, and equipment and in intangible assets, long term debt financing, equity financing, investments in debt and equity securities, the statement of cash flows, introduction to financial statement analysis,...and other contents.
A R T © DUNCAN SMITH/PHOTODISC GREEN/GETTY IMAGES INC Long-Term Debt Financing Equity Financing q Investments in Debt and Equity Securities w Investments in Property, Plant, and Equipment and in Intangible Assets Investing and Financing Activities P C H A P T E R © AP PHOTO/SARA D DAVIS Investments in Property, Plant, and Equipment and in Intangible Assets LEARNING OBJECTIVES After studying this chapter, you should be able to: Identify the two major categories of longterm operating assets: property, plant, and equipment and intangible assets A company needs an infrastructure of long-term operating assets in order to produce and distribute its products and services In addition to property, plant, and equipment, long-term operating assets also include intangible items such as patents and licenses Understand the factors important in deciding whether to acquire a long-term operating asset A company should purchase a long-term operating asset if the future cash flows expected to be generated by the asset are “large” in comparison to the cost to purchase the asset Record the acquisition of property, plant, and equipment through a simple purchase as well as through a lease, by self-construction, and as part of the purchase of several assets at once The recorded cost of property, plant, or equipment includes all costs needed to purchase the asset and prepare it for its intended use Assets can be acquired through purchase, leasing, exchange, self-construction, or through the purchase of an entire company Compute straight-line and units-ofproduction depreciation expense for plant and equipment Depreciation is the process of systematically allocating the cost of a long-term asset over the service life of that asset If that service life is measured in years, then a reasonable way to allocate the cost is equally over the years; this is called straight-line depreciation Account for repairs and improvements of property, plant, and equipment Postacquisition costs that increase an asset’s capacity or extend its life are called improvements and are capitalized meaning that they are added to the cost of the asset Routine maintenance costs are called repairs and are expensed Identify whether a long-term operating asset has suffered a decline in value and record the decline When a long-term operating asset suffers a significant decline in value (as indicated by a decline in the cash flows expected to be generated by the asset), it is said to be impaired When an asset is impaired, its recorded value is reduced and an impairment loss is recognized Increases in asset values are not recognized in the financial statements Record the discarding and selling of property, plant, and equipment Upon the disposal of a long-term operating asset, a gain or loss is recognized if the disposal proceeds are more or less, respectively, than the remaining book value of the asset Account for the acquisition and amortization of intangible assets and understand the special difficulties associated with accounting for intangibles Because the traditional accounting model is designed for manufacturing and retail companies, many intangible assets go unrecorded Intangible assets are recorded only when they are purchased, either individually or as part of a set of assets Goodwill is the excess of the purchase price over the fair value of the net identifiable assets in a business acquisition Use the fixed asset turnover ratio as a measure of how efficiently a company is using its property, plant, and equipment The fixed asset turnover ratio is computed as sales divided by the amount of property, plant, and equipment (fixed assets) This ratio can be used as a general measure of how efficiently a company is using its property, plant, and equipment EXPANDED material q Compute declining-balance and sum-ofthe-years’-digits depreciation expense for plant and equipment Many long-term operating assets wear out proportionately more in the early years of their lives For these assets, more depreciation is recorded in the early years; this is called accelerated depreciation Two mathematical techniques used to generate this accelerated pattern are declining-balance depreciation and sum-ofthe-years’-digits depreciation Account for changes in depreciation estimates and methods Depreciation expense involves making estimates relating to pattern of use, estimated useful life, and salvage value Changes in estimated salvage value or useful life and changes in depreciation method are reflected in the computation of depreciation expense for the current and future periods The undepreciated book value is allocated over the remaining life based on the revised estimates or method 390 Part Investing and Financing Activities SETTING THE STAGE Thomas Edison received $300,000 in investment funds in 1878 in order to start his Edison Electric Light Company Today, General Electric is the direct descendant of Edison’s company and, with a market value of $354 billion (as of May 2006), is the second most valuable company in the world (behind ExxonMobil) General Electric has been a fixture in corporate America since the late 1800s and is the only one of the 12 companies in the original Dow Jones Industrial Average that is still included among the 30 companies making up the Dow today.1 The stated purpose of the creation of the Edison Electric Light Company was the development of an economically practical electric light bulb After a year of experimentation, Thomas Edison discovered that carbonized bamboo would provide a long-lasting light filament that was also easy to produce Edison quickly found that delivering electric light to people’s homes required more than a light bulb, however So, he developed an entire electricity generation and distribution system, inventing new pieces of equipment when he couldn’t find what he needed The first public electric light system was built in London, followed soon after by the Pearl Street Station system in New York City in 1882 In 1892, Edison’s company merged with the Thomson-Houston Electric Company [developer of alternating-current (AC) equipment that could transmit over longer distances than Edison’s direct-current (DC) system], and the General Electric Company (GE) was born From the beginning, General Electric’s strength has been research In addition to improving the design of the light bulb (including the development in the early 1900s of gas-filled, tungsten-filament bulbs that are the model for bulbs still used today), GE was also instrumental in developing almost every familiar household appliance—the iron, washing machine, refrigerator, range, air conditioner, dishwasher, and more In addition, GE research scientists helped create FM radio, aircraft jet engines, and nuclearpower reactors Today, General Electric operates in a diverse array of businesses, ranging from train locomotives to medical CT scanners to consumer financing to the NBC television network To support its broad array of businesses, General Electric maintains a vast quantity of long-term assets that cost almost $112 billion to acquire In 2005 alone, GE spent an additional $14.4 billion in acquiring long-term operating assets and received $6.0 billion for disposing of old assets Its long-term assets include $3.3 billion in rail cars, $32.9 billion in aircraft, $15.6 billion in buildings, $25.8 billion in machinery, and $81.7 billion in “intangible” assets n Chapters through 8, operating activities of a business and the assets and liabilities arising from those operations were discussed In this and the next three chapters, investing and financing activities are covered In this chapter, investments in long-term assets that are used in the business, such as buildings, property, land, and equipment, are discussed In Chapter 10, long-term long-term operating debt financing is covered assets In Chapter 11, equity financing is discussed Once you Assets expected to be understand debt and equity held and used over the securities, as discussed in course of several years to facilitate operating Chapters 10 and 11, you activities will understand how these same securities can be purchased as investments Therefore, in Chapter 12, investments in stocks and bonds (securities) of other companies are discussed Exhibit illustrates the time line of important business issues associated with long-term operating assets and shows the financial statement impact of the items that will be covered in this chapter The two primary categories of long-term assets discussed in this chapter are (1) property, plant, and equipment and (2) intangible assets Because property, plant, and equipment and intangible assets are essential to a business in carrying out its operating activities, they are sometimes called long-term operating assets Unlike inventories, these long-term operating assets are I This description is based on General Electric Company History at http://ge.com/en/company/companyinfo/ at_ a_glance/hist_leader.htm; General Electric Company, International Directory of Company Histories, vol 12 (Detroit: St James Press, 1996), pp 193–197; 1999 Annual Report of the General Electric Company Investments in Property, Plant, and Equipment and in Intangible Assets 391 EVALUATE ACQUIRE possible acquisition of long-term operating assets long-term operating assets Journal Entry No J/E F/S Impact ESTIMATE and RECOGNIZE MONITOR DISPOSE periodic depreciation and amortization asset value for possible declines of assets Long-term asset Debt (or cash) Expense Accumulated Depreciation (or the asset) Impairment Loss Equipment (net) Cash Loss (or Gain) Equipment (net) LT asset Debt Exp Asset (net) Exp Asset (net) Asset (cash) * R/E Asset (LT asset) *Increase or decrease would depend on whether the sale resulted in a gain or a loss not acquired for resale to customers but are held and used by a business to generate revenues As illustrated by the numbers given for General Electric at the beginning of the chapter, long-term operating assets often comprise a significant portion of the total assets of a company Nature of Long-Term Operating Assets Identify the two major categories of long-term operating assets: property, plant, and equipment and intangible assets property, plant, and equipment Tangible, long-lived assets acquired for use in business operations; include land, buildings, machinery, equipment, and furniture Businesses make money by selling products and services A company needs an infrastructure of long-term operating assets in order to profitably produce and distribute these products and services For example, General Electric needs factories in which to manufacture the locomotives and light bulbs that it sells GE also needs patents on its unique technology to protect its competitive edge in the marketplace A factory is an example of a long-term operating asset that is classified as property, plant, and equipment A patent is an example of an intangible asset Property, plant, and equipment refers to tangible, long-lived assets acquired for use in business operations This category includes land, buildings, machinery, equipment, and furniture Intangible assets are long-lived assets that are used in the operation of a business but not have physical substance (see page 392 for definition) In most cases, they provide their owners with competitive advantages over other firms Typical intangible assets are patents, licenses, franchises, and goodwill The following section outlines the process used in deciding whether to acquire a long-term operating asset The subsequent sections discuss the accounting issues that arise when a long-term operating asset is acquired: accounting for the acquisition of the asset, recording periodic depreciation, accounting for new costs and changes in asset value, and properly removing the asset from the books upon disposition THE FOR SALE STAGE Time Line of Business Issues Involved with Long-Term Operating Assets SETTING EXHIBIT Chapter 392 Part Investing and Financing Activities REMEMBER THIS intangible assets Long-lived assets without physical substance that are used in business, such as licenses, patents, franchises, and goodwill Understand the factors important in deciding whether to acquire a long-term operating asset • Long-term operating assets provide an infrastructure in which to conduct operating activities • The category of property, plant, and equipment refers to tangible, long-lived assets such as land and equipment • Examples of intangible assets are patents and licenses Deciding Whether to Acquire a Long-Term Operating Asset As mentioned in the previous section, long-term operating assets are acquired to be used over the course of several years The decision to acquire a long-term asset depends on whether the future cash flows generated by the asset are expected to be large enough to justify the asset cost The process of evaluating a long-term project is called capital budgeting This process is briefly introduced here and is covered in more detail in Chapter 22 in the management accounting section of Accounting: Concepts and Applications Assume that Yosef Manufacturing makes joysticks and other computer game accessories Yosef is considering expanding its operations by buying an additional production facility The cost of the new factory is $100 million Yosef expects to capital budgeting be able to sell the joysticks and other items made in the factory for $80 million Systematic planning for per year At that level of production, the annual cost of operating the factory long-term investments in (wages, insurance, materials, maintenance, etc.) is expected to total $65 million operating assets The factory is expected to remain in operation for 20 years Should Yosef buy the new factory for $100 million? To summarize the information in the preceding paragraph, Yosef must decide whether to pay $100 million for a factory that will generate a net profit of $15 million ($80 million Ϫ $65 million) per year for 20 years At first glance, you might think that the decision is obvious because the factory costs only $100 million but will generate $300 million in profit ($15 million ϫ 20 years) during its 20-year life But this analysis ignores the important fact that dollars received in the future are not worth as much as dollars received right now For example, if you can invest your money and earn 10%, receiving $1 today is the same as receiving $6.73 20 years from now because the $1 received today could be invested and would grow to $6.73 in 20 years This important contime value of money cept is called the time value of money and is essential to properly evaluating whether to acquire any long-term asset The concept that a dollar Using the time value of money calculations that will be explained in detail in received now is worth Chapter 10, it can be shown that receiving the future cash flows from the facmore than a dollar tory of $15 million per year for 20 years is the same as receiving $128 million in received in the future one lump sum right now, if the prevailing interest rate is 10% Thus, the decision to acquire the factory boils down to the following comparison: Should we pay $100 million to buy a factory now if the factory will generate future cash flows that are worth the equivalent of $128 million now? The decision is yes, because the $128 million value of the expected cash inflows is greater than the $100 million cost of the factory On the other hand, if the factory were expected to generate only $10 million per year, then, using the computations that will be explained in Chapter 10, it can be calculated that the Investments in Property, Plant, and Equipment and in Intangible Assets Chapter 393 value of the cash flows would be only $85 million, and the factory should not be purchased for $100 million The important concept to remember here is that long-term operating assets have value because they are expected to help a company generate cash flows in the future If events occur that change the expectation concerning those future cash flows, then the value of the asset changes For example, if consumer demand for computer joysticks dries up, the value of a factory built to produce joysticks can plunge overnight even though the factory itself is still as productive as it ever was Accounting for this type of decline in the value of a long-term operating asset is discussed later in the chapter REMEMBER THIS • Long-term operating assets have value because they help companies generate future cash flows • The decision to acquire a long-term operating asset involves comparing the cost of the asset to the value of the expected cash inflows, after adjusting for the time value of money • An asset’s value can decline or disappear if events cause a decrease in the expected future cash flows generated by the asset Record the acquisition of property, plant, and equipment through a simple purchase as well as through a lease, by selfconstruction, and as part of the purchase of several assets at once Accounting for Acquisition of Property, Plant, and Equipment Like all other assets, property, plant, and equipment are initially recorded at cost The cost of an asset includes not only the purchase price but also any other costs incurred in acquiring the asset and getting it ready for its intended use Examples of these other costs include shipping, installation, and sales taxes The items that should be included in the acquisition cost of various types of property, plant, and equipment are outlined in Exhibit Property, plant, and equipment are usually acquired by purchase In some cases, assets are acquired by leasing but are accounted for as assets in much the same way as purchased assets Plant and equipment can also be constructed by a business for its own use Also, a company can in one transaction purchase several different assets or even another entire company The accounting for each of these types of acquisition is explained below and on the following pages EXHIBIT Items Included in the Acquisition Cost of Property, Plant, and Equipment Land Purchase price, commissions, legal fees, escrow fees, surveying fees, clearing and grading costs Land improvements (e.g., landscaping, paving, fencing) Cost of improvements, including expenditures for materials, labor, and overhead Buildings Purchase price, commissions, reconditioning costs Equipment Purchase price, taxes, freight, insurance, installation, and any expenditures incurred in preparing the asset for its intended use, e.g., reconditioning and testing costs 394 Part Investing and Financing Activities Assets Acquired by Purchase A company can purchase an asset by paying cash, incurring a liability, exchanging another asset, or by a combination of these methods If a single asset is purchased for cash, the accounting is relatively simple To illustrate, we assume that Wheeler Resorts, Inc., purchases a new delivery truck for $15,096 (purchase price, $15,000, less 2% discount for paying cash, plus sales tax of $396) The entry to record this purchase is: Delivery Truck 15,096 Cash Purchased a delivery truck for $15,096 ($15,000 – $300 cash discount ϩ $396 sales tax) 15,096 In this instance, cash was paid for a single asset, the truck An alternative would be to borrow part of the purchase price If the company had borrowed $12,000 of the $15,096 from a bank, the entry would have been: Delivery Truck 15,096 Cash Notes Payable Purchased a delivery truck for $15,096; paid $3,096 cash and issued a note for $12,000 to Chemical Bank lease A contract that specifies the terms under which the owner of an asset (the lessor) agrees to transfer the right to use the asset to another party (the lessee) lessee The party that is granted the right to use property under the terms of a lease lessor The owner of property that is leased (rented) to another party operating lease A simple rental agreement 3,096 12,000 The $12,000 represents the principal of the note; it does not include any interest charged by the lending institution (The interest is recognized later as interest expense.) When one long-term operating asset is acquired in exchange for another, the cost of the new asset is usually set equal to the market value of the asset given up in exchange Assets Acquired by Leasing Leases are often short-term rental agreements in which one party, the lessee, is granted the right to use property owned by another party, the lessor For example, as a student, you may decide to lease (rent) an apartment to live in while you are attending college The owner of the apartment (lessor) will probably require you to sign a lease specifying the terms of the arrangement The lease states the period of time in which you will live in the apartment, the amount of rent you will pay, and when each rent payment is due When the lease expires, you will either sign a new lease or move out of the apartment, which would then be rented to someone else Companies enter into similar types of lease arrangements For example, Wheeler Resorts might decide to lease a building because it needs additional office space Assume Wheeler signs a two-year lease requiring monthly rental payments of $1,000 When the lease expires, Wheeler will either move out of the building or negotiate a new lease with the owner Accounting for this type of rental agreement, called an operating lease, is straightforward When rent is paid each month, Wheeler records the following journal entry: Rent (or Lease) Expense Cash To record monthly rent of office building 1,000 1,000 Some lease agreements, however, are not so simple Suppose Wheeler has decided to expand its operations and wants to acquire a hotel in the Phoenix, Arizona, area Investments in Property, Plant, and Equipment and in Intangible Assets Chapter 395 A college student (lessee) often rents an apartment while attending college The apartment owner (lessor) will require the student to sign a lease stating the terms of the arrangement © LELAND BOBBE/GETTY IMAGES INC Wheeler’s alternatives are to buy land and build a new hotel, purchase an existing hotel, or lease a hotel Assume Wheeler locates a desirable piece of land, and the owner of the land agrees to build a hotel and lease the property to Wheeler The lease agreement is noncancelable and requires Wheeler to make annual lease payments of $100,000 for 20 years At the end of 20 years, Wheeler will become the owner of the property Clearly, this is not a simple rental agreement, even though the transaction is called a lease by the parties involved In reality, this transaction is a purchase of the property with the payments being spread over 20 years The result is the same as if Wheeler had borrowed money on a 20-year mortgage and purchased the property Generally accepted accounting principles require that the recording of a transaction reflect its true economic nature, not its form Instead of recognizing the individual lease payments as an expense as was done with the operating lease, Wheeler records the property as an asset and also records a liability reflecting the obligation to the lessor The amount to be recorded is the cash amount that Wheeler would have to pay right now in order to completely pay off the obligation to make the future lease payments This amount is called the present value of the lease payments (in the Wheeler example, the present value of 20 annual payments of $100,000) and takes into account the time value of money As mentioned earlier, the time value concept will be explained in more detail in Chapter 10 Continuing the example, assume that, at the beginning of the lease term, the present value of the future lease payments is $851,360 Wheeler makes the following journal entry to record the lease: Leased Property Lease Liability To record hotel acquired under a 20-year noncancelable lease capital lease 851,360 851,360 This type of lease is called a capital lease because the lessee records (capitalizes) the leased asset the same as if the asset had been acquired in an outright A leasing transaction that purchase The asset is reported with Property, Plant, and Equipment on the is recorded as a purchase lessee’s balance sheet The lessee (Wheeler Resorts) also shows the lease liabilby the lessee ity on the balance sheet as a long-term liability When annual lease payments are made, Wheeler will not record the payment as rent expense Instead, the payment will be recorded as a reduction in the lease liability, with part of each payment being interest on the outstanding obligation The difference between the total lease payments (20 years ϫ $100,000, or $2 million) and the “cost” or present value of the property is the amount of interest that will be paid over the term of the lease To illustrate, assume that the first payment is made one year after the lease term begins and includes interest of $85,136 and a $14,864 reduction in the liability The payment is recorded as follows: 396 Part Investing and Financing Activities Lease Liability Interest Expense Cash To record annual lease payment under capital lease 14,864 85,136 100,000 Accounting for payments on capital leases is discussed in more detail in Chapter 10 Classifying Leases As illustrated, an operating lease is accounted for as a simple rental, whereas a capital lease is accounted for as a purchase of the leased asset Because the accounting treatment of a lease can have a major impact on the financial statements, the accounting profession has established criteria for determining whether a lease should be classified as an operating or a capital lease If a lease is noncancelable and meets any one of the following four criteria, it is recorded as a capital lease: The lease transfers ownership of the leased asset to the lessee by the end of the lease term (as in the Wheeler Resorts example) The lease contains an option allowing the lessee to purchase the asset at the end of the lease term at a bargain price, essentially guaranteeing that ownership will eventually transfer to the lessee The lease term is equal to 75% or more of the estimated economic life of the asset, meaning that the lessee will use the asset for most of its economic life The present value of the lease payments at the beginning of the lease is 90% or more of the fair market value of the leased asset Meeting this criterion means that, in agreeing to make the lease payments, the lessee is agreeing to pay almost as much as the cash price to purchase the asset outright If just one of the above criteria is met, then the lease agreement is classified as a capital lease and is accounted for by the lessee as a debt-financed purchase A lease that does not meet any of the capital lease criteria is considered an operating lease Keep in mind that these two types of leases are not alternatives for the same transaction If the terms of the lease agreement meet any one of the capital lease criteria, the lease must be accounted for as a capital lease The accounting for leases has been a thorn in the side of accounting standard-setters for at least 50 years From the beginning, the crucial issue has been how to require companies to report leased assets and lease liabilities in the balance sheet when a lease constitutes an effective transfer of ownership The four lease criteria outlined above were issued by the FASB in 1976, with the thought that the rigidity and strictness of the criteria would result in most leases being reported on lessee companies’ balance sheets as capital leases In practice, U.S companies have taken these four criteria as a challenge and have carefully crafted their lease agreements F Y I so that none of the criteria is satisfied, allowing the leases to continue to be acOne of the most interesting accounting counted for as operating leases manipulations involving the four lease criteria One of the largest leasing companies in relates to the 90% threshold for the present the United States is a subsidiary of General value of the minimum lease payments By Electric called GE Capital Services GE hiring an insurance company to guarantee a Capital Services leases industrial equipment, portion of the lease payments, a lessee is able to exclude these payments from the present aircraft, factory buildings, rail cars, shipping value computations, lowering the present value containers, computers, medical equipment, below the 90% threshold and more In 2005, the total original cost of assets leased by GE Capital Services to other companies was $72.4 billion Check Figures 9-58 9-60 9-62 9-64 9-66 9-68 9-70 9-72 (2) Debit to Equipment ϭ $50,400 (1) Credit to Cash ϭ $114,000 (3) Debit to Depletion Expense ϭ $210,000 Debit to Goodwill ϭ $20,000 (1) Fixed asset turnover ϭ 3.08 (3) Depreciation ϭ $50,400 (2) 2009 Depreciation Expense ϭ $7,520 (3) (c) Uranium Book Value ϭ $24,000 Appendix C C-3 Chapter 11 Exercises 11-18 11-20 11-22 11-24 11-26 11-28 11-30 (2) Retained earnings ϭ $130,150 (c) Credit to Dividends Payable ϭ $76,720 (e) Credit to Dividends Payable ϭ $79,800 (3) $1.69 per share (2) Total dividends paid ϭ $172,485 (2) $8.43 per share Comprehensive income ϭ $22,100 Chapter 10 Exercises Problems 10-24 10-26 10-28 10-30 10-32 11-32 11-34 11-36 10-34 10-36 10-38 10-40 10-42 (4) $10,997 (1) Payment ϭ $75,481 12/31/09 Credit to Cash ϭ $1,250 (2) Total Interest Paid ϭ $17,072 (2) Debit to Rent (or Lease) Expense ϭ $4,141 Total issuance price ϭ $68,124 (3) 3/1/10 Debit to Bond Interest Expense ϭ $4,200 (1) Debt ratio ϭ 55.6% (1) (b) Debit to Premium on Bonds ϭ $100 (4) Bonds Payable Carrying Value ϭ $51,772 11-38 11-40 11-42 11-44 11-46 11-48 (3) (b) $861,000 (b) Credit to Treasury Stock ϭ $44,800 (2) Total stockholders’ equity ϭ $269,600 (2) 2009 Preferred Stock Dividends ϭ $206,000 Case B Dividend payout ratio ϭ 0.143 (1) (b) $89,000 (2) Total stockholders’ equity ϭ $786,250 (1) (e) Debit to Retained Earnings ϭ $30,200 N/A Chapter 12 Problems Exercises 10-44 10-46 10-48 12-20 10-50 10-52 10-54 10-56 10-58 10-60 10-62 10-64 10-66 10-68 (2) (a) $27,372 (2) Payment ϭ $444.89 (2) 12/31/08 Debit to Interest Expense ϭ $750 (1) (c) Debit to Lease Liability ϭ $3,782 June 30 Issuance price of bonds ϭ $1,010,720 (2) Debit to Bond Interest Expense ϭ $22,500 Total liabilities ϭ $1,025,300 (2) Debt ratio ϭ 77.8% (1) Debit to Cash ϭ $99,000 (1) Issuance price of bonds ϭ $138,961 (1) Credit to Premium on bonds ϭ $22,939 (1) (d) Debit to Bond Interest Expense ϭ $4,400 Case Approximate effective interest rate ϭ 12.7% 12-22 12-24 12-26 12-28 12-30 12-32 12-34 12-36 12-38 12/31 Credit to Unrealized Gain on Trading Securities—Income ϭ $1,560 12/31/09 Debit to Unrealized Increase/Decrease in Value of Availablefor-Sale Securities—Equity ϭ $27,500 Debit to Investment in Trading Securities ϭ $20,500 Debit to Market Adjustment—Availablefor-Sale Securities ϭ $100 Credit to Cash ϭ $35,620 (2) Total present value ϭ $113,592 (1) 12/31 Debit to Bond Interest Receivable ϭ $1,500 Total amount of Amortization ϭ $3,285 (2) Credit to Dividend Revenue ϭ $3,000 (1) Minority interest ϭ $375 Problems 12-40 12-42 (c) Credit to Dividend Revenue ϭ $200 (1) $2,500 unrealized loss C-4 12-44 12-46 12-48 12-50 12-52 12-54 12-56 12-58 12-60 Appendix C Check Figures (1) 12/31 Credit to Bond Interest Revenue ϭ $4,300 (3) Loss on sale of securities ϭ $680 (1) 7/1 Debit to Cash ϭ $1,650 (3) Debit to Realized Loss on Sale of Trading Securities ϭ $3,000 (2) $3,000 (2) 12/31/09 Debit to Bond Interest Receivable ϭ $418.90 (2) 3/20 Debit to Investment in Equity Method Securities ϭ $2,560,000 (2) Corporation B Credit to Dividend Revenue ϭ $12,500 N/A Chapter 13 Exercises 13-18 13-20 13-22 13-24 13-26 13-28 13-30 13-32 13-34 13-36 N/A (1) (d) Credit to Dividend Revenue ϭ $6,300 Net increase in cash ϭ $48,750 N/A Net cash flows provided by operating activities ϭ $74,400 Net cash flows provided by operating activities ϭ $161,600 Net cash flows provided by operating activities ϭ $90,800 Net cash flows used in investing activities ϭ ($197,000) Cash receipts from Customers ϭ $415,500 N/A Problems 13-38 13-40 (2) Net increase in cash ϭ $74,300 (1) Net cash flows provided by operating 13-42 13-44 13-46 13-48 activities ϭ $13,000 (1) Net cash flows from operations ϭ $24,540 Net income ϭ $122,100 (1) Cash from operating activities ϭ $707 (1) Cash paid for taxes ϭ $13,700 Chapter 14 Exercises 14-34 14-36 14-38 14-40 14-42 14-44 14-46 14-48 14-54 (f ) Total liabilities ϭ $125,500 (1) 2009 Income tax expense as percentage of sales ϭ 5.9% (1) 2009 Total assets as percentage of sales ϭ 23.6% (1) Cost of goods sold ϭ $161,000 (2) 2009 Return on sales ϭ 5.0% (1) Faulty’s ROE ϭ 8.7% Profit Margin ϭ 57.9% (1) Retail jewelry stores’ Return on Assets ϭ 7.6% (1) 2009 Cash flow-to-net income ratio ϭ 0.75 Problems 14-56 14-58 14-60 14-62 14-64 14-66 14-68 (1) Current ratio ϭ 1.79 (1) 2009 Operating income as percentage of sales ϭ 7% (1) 2009 Total operating expenses as a percentage of sales ϭ 26.7% (2) 2009 Asset turnover ϭ 2.50 (1) (b) 2009 Debt ratio ϭ 38.6% N/A N/A INDEX SUBJECT INDEX A Absences, compensated, 346 Accelerated depreciation methods, 417 Account balances, determining, 98 Account(s) chart of, 98, illus., 100 contra, 235 def., 80 errors in, 188 real and nominal, 148 reconciling the bank, 247 sample of selected, 147 using to categorize transactions, 80 Accountants American Institute of Certified Public (AICPA), 15, 191 certified public (CPAs), 15, 48 effect of the 1934 Act on independent, 208 Accounting, 20 accrual, 130, 132 cash-basis, 132, 134 def., double-entry, 35 environment, 13 ethics in, 17 financial, 10 information, management, 9, 10 mechanics of, 84 model, def., 49 non-GAAP, 198 policies, 46 process, role of auditors in, 202 purpose of, relationship to business, standards, 13 Accounting: Concepts and Applications, 12 Accounting cycle def., 8, 76 illustration of the first three steps in, 99 output of, illus., sequence of, illus., 78, 151 summary of, 151 Accounting equation, 34, 79 def., 35 effects of business transactions on, illus., 102 elements of, illus., 34 expanded, illus., 85 expanding to include revenues, expenses, and dividends, 84 how transactions affect, 79 Accounting system def., functions of, illus., review of, 147 Accounts payable, number of days’ purchases in, 305 Accounts receivable, 237 def., 238 efficiency, 683 estimating uncollectible as a percentage of credit sales, 241 estimating uncollectible as a percentage of total receivables, 241 net realizable value of, 240 turnover, def., 244 Accrual accounting, 130 Accrual income, determining, illus, 133 Accrual to cash basis, guidelines for converting from illus., 632 Accrual-basis accounting, def., 132 Accumulated other comprehensive income, def., 531 Acquisition cost of goodwill and other intangible assets, illus., 413 of property, plant, and equipment, items included in the illus., 393 Activities common to business organizations, illus., comparing service and manufacturing business, 894 financing, 43, 228, 618, 619 investing, 43, 228, 618 noncash investing and financing, 619 of a business, major, 228, illus., 229 operating, 43, 228, 616 selling a product or service, illus., 230 Adjusted trial balance, simplified, illus., 144 Adjusting entries, def., 135 Adjustments, review of, 146 Advertising, 359 Aging accounts receivable, def., illus., 242 Allowance for bad debts, def., 239 Allowance method, def., 239 American Institute of Certified Public Accountants (AICPA), 191 def., 15 Amortization def., 414 effective-interest, 478, 481, 578 of bond discounts and premiums, accounting for, 576 of intangible assets, 414 schedule, mortgage, 464 straight-line, 478, 576 table for Chicago Company bonds, illus., 578 Analytical procedures, 205 Annual report, def., 10 Annuity computing the present value of, 459 def., 459 present value of, 459 Annuity of $1 per number of payments Table II: Present value of, illus., 485 Table IV: Amount of, illus., 487 Arm’s length transactions assumption of, 49 def., 50 Articles of incorporation, 519 Articulation, def., 45 Asset turnover, 675, 679 def., 672 Asset value, recording impairments of, 407 Assets acquired by leasing, 394 acquired by purchase, 394 acquired by self-construction, 397 acquiring other, 88 acquisition costs of goodwill and other intangible, illus., 413 acquisition of several at once, 397 common, illus., 32 current, 35 def., 32 intangible, 391, 392, 411, 414, 415 long-term, 35, 37 long-term operating, 390, 391, 392, illus., 391 net, 33 physical control over, 193 Assets-to-equity ratio, def., 679 Assumption average cost flow, 301 FIFO cost flow, 300 fundamental concepts and, 49 going concern, 50, 51 impact of inventory cost flow, 304 inventory cost flow, 297 SI-2 Subject Index LIFO cost flow, 300 of arm’s-length transactions, 49 Audit, 146 committee, def., 192 processes used by auditors, illus., 204 report, def., 48 Auditors, 204 audit processes used by, illus., 204 constraints on, 201 external, 203 how they spend their time, illus., 146 independent, 206 internal, 202, 203 role of in the accounting process, 202 Authorization, proper procedures for, 193 Available for sale, cost of goods, 288 Available-for-sale securities accounting for trading and, 568 changes in the value of, 571 def., 566 unrealized gains and losses on, 531 Average collection period, def., 244 Average cost complications of the perpetual method with, 309 def., 298 Average cost flow assumption, 301 B Bad debt expense def., 239 for Yahoo!, illus., 243 Bad debts allowance for, 239 def., 238 real-world illustration of accounting for, 243 Balance sheet, 10, 31, 34 and income statement accounts, how they relate to the statement of cash flows, illus., 619 and income statement, illus., 103 classified, 35 comparative, 35 def (statement of financial position), 31 for Microsoft, common-size, illus., 678 for Safeway, classified, illus., 36 format of, 35 illus., 145 limitations of, 36 presentation, 525 Bank account, reconciling, 247 Bank reconciliation def., 248 for Hunt Company, July, illus., 249 Bank statement for Hunt Company, July, illus., 248 Basic earnings per share, def., 363 Basket purchase, def., 397 Benefits postemployment, 348 postretirement other than pensions, 350 Board of directors, def., 520 Bond carrying value, def., 481 Bond discount, 470 accounting for the amortization of, 576 def., 471 Bond indenture, 469 def., 470 Bond investments, accounting for the sale or maturity of, 579 Bond issuance price, determining, 469 Bond maturity date, 469 def, 470 Bond premium, 470 def., 471 Bond retirements before maturity, 475 Bonds callable, 468, 469 characteristics of, 469 convertible, 468, 469 coupon, 468 debentures or unsecured, 468 deep discount, 468 def., 468 issued at a discount, 471, 478 issued at a premium, 472, 478, 480 issued at face value, 471 junk, 468, 469 nature of, 468 payable issued at face value, accounting for, 473 purchased between interest dates, accounting for, 575 registered, 468 secured, 468 serial, 468, 469 term, 468, 469 types of, 468 zero-coupon, 468, 469 Bonus, def., 347 Book value and market value for the ten largest U.S firms, illus., 38 def., 37, 399 Bookkeeping, def., Books, closing, 148 Brands, ten most valuable in the world for 2005, illus., 412 Budgeting, capital, 392 Business activities common to, illus., def., documents, def., 77 international, 15 major activities of, 228, illus., 229 relationship of accounting to, Business issues associated with buying and selling investment securities, time-line of, illus., 568 involved with inventory, time line of, illus., 286 involved with investor financing, time line of, illus., 516 involved with long-term liabilities, time line of, illus., 462 involved with long-term operating assets, time line of, illus., 391 Business transactions, effects of, on the accounting equation, illus., 102 C Calendar year, def., 132 Callable bonds, 468 def., 469 Capital contributed, 522 corporation’s ability to raise large amounts of, 518 Capital budgeting, def., 392 Capital lease, def., 395 Capital stock, 34 def., 35 Capitalize versus expense, 358 Capitalized interest def., 397 for several companies, magnitude of, illus., 398 Cash acquiring from owners or borrowing, 87 collecting and paying obligations, 93 collection of, 234 def., 236 flow of, illus., 617 Cash basis, guidelines for converting from accrual to, illus., 632 Cash dividend accounting for, 527 constraints on payment of, 529 def., 526 Cash equivalents, def., 616 Cash flow adequacy ratio, def., 688 Cash flow data for Microsoft for 2005 and 2004, selected, illus., 688 Cash flow patterns, 619 illus., 562 Cash flow ratios, 686 cash flow-to-net income ratio, def., 687 for selected U.S companies, 2005, illus., 689 usefulness of, 687 Cash flows from operations, Home Depot’s net income and, illus., 614 illus., 44 major classifications of, 616, illus., 617 Subject Index statement patterns, analysis of, illus., 636 to net income, 687 See also Statement of cash flows Cash-basis accounting, def., 134 Ceiling, def., 311 Certified public accountant (CPA), 48 def., 15 Chart of accounts def., 98 for a typical company, illus., 100 Charter, 519 Classified balance sheet def., 35 for Safeway, illus., 36 Closing entries, 293 def., 149 Closing process, illus., 150 Closing the books, 148 Common assets, illus., 32 Common liabilities, illus., 33 Common stock, def., 520 Common-size financial statements balance sheet for Microsoft, illus, 678 def., 676 income statement for Microsoft, illus., 676 Companies descended from the original Standard Oil, illus., 342 Comparative financial statements, 35 balance sheet, 35 def., 37 income statements for Safeway, illus., 40 Compensated absences, 346 Compensation, employee, 344 Competitors, 12 Compound journal entry, def., 92 Compounding period, def., 458 Comprehensive income accumulated other, 531 def., 41 for Dow Jones & Company, statement of, illus., 532 statement of, 532 Computers, 104 Concept(s) and assumptions, fundamental, 49 monetary measurement, 50 present and future value, 455 separate entity, 49 time-period, 132 Confirmation, 205 Conglomerates, def., 690 Consignment, def., 287 Consolidated financial statements, 582 def., 565 illus., 584 Constraints on auditors, 201 on management, 202 on payment of cash dividends, 529 Contingency, def., 355 Contingent liabilities, accounting for, illus., 356 Continuum, expense/asset, illus., 358 Contra account, def., 235 Contributed capital, def., 522 Control activities (procedures), def., 192 Control environment, def., 192 Control of cash, 236 Convertible bonds, 468 def., 469 Convertible preferred stock, def., 520 Corporation characteristics of, 518 def., 518 starting a, 519 Cost average, 298 historical, 50 included in inventory cost, 287 reporting inventory at amounts below, 311 transportation, 291 Cost flow assumption average, 301 FIFO, 300 impact of inventory, 304 inventory, 297 LIFO, 300 Cost of goods available for sale, def., 288 Cost of goods sold, 285 calculating, 295 def., 286 ending inventory and, 288 Cost principle, 50 def., 51 Coupon bonds, def., 468 Credit (Cr), def., 82 customers who don’t pay, accounting for, 237 sales, estimating uncollectible accounts receivable as a percentage of, 241 Cumulative-dividend preference, def., 529 Current assets, def., 35 Current liabilities, 35 def., 37 Current ratio, 671, 675 def., 672 for selected U.S companies, illus., 672 Current-dividend preference, def., 528 Customers, 11 D Date of record, def., 527 Debentures (unsecured bonds), def., 468 SI-3 Debit (Dr), def., 81 Debt ratio, 675 def., 476, 671 Debt securities and equity securities, different classification for, 566 classification of, illus., 564 def., 564 Debt-related financial ratios, 476 Debt-to-equity ratio, 685 def., 476 Debts, bad, 238 allowance for, 239 expense, 239 real-world illustration of accounting for, 243 Decision-making process, illus., Declaration date, def., 527 Declining-balance depreciation method, def., 418 Deep-discount bonds, 468 Defective controls, def., 192 Deferred tax example, 353 Defined benefit plan, 348 def., 349 Defined contribution plan, def., 348 Depletion, def., 404 Depreciation changes in estimates, 422 declining-balance method, 418 def., 399 for income tax purposes, 419 partial-year, illus., 404 straight-line, 400 sum-of-the-years’-digits, 419 units-of-production method, 402 Depreciation expense, calculating and recording, 399 comparison of methods, illus., 403, 421 Depreciation methods accelerated, 417 changes in, 422 comparison of, 403, 420, illus., 421 Depreciation schedule change in estimate, illus., 422 double-declining-balance depreciation, illus., 418 straight-line, illus., 400 sum-of-the-years’-digits depreciation, illus., 420 units-of-production, illus., 402 Diluted earnings per share, def., 363 Direct method, def., 630 Direct write-off method, def., 238 Disagreements, 187 in judgment, 189 Disclosure, 47 change in methods or estimates with full, 198 change in methods or estimates with little or no, 198 concerning Exxon Valdez oil spill, 1991 and 2005, illus., 357 of information not recognized, 46 SI-4 Subject Index Discount accounting for bonds issued at, 478 accounting for the amortization of bond, 576 bond, 470, 471 bonds issued at, 471, 478 purchase, 292 sales, 234 Dividend payment date, def., 527 Dividend payout ratio, def., 530 Dividend preferences, illus., 528 Dividends constraints on payment of cash, 529 def., 34, 84, 526 in arrears, def., 529 in the accounting equation, 84 Documents and records, adequate, 193 Double taxation, corporation, 519 Double-declining-balance depreciation, depreciation schedule with, illus., 418 Double-entry accounting, def., 35 Dow Jones Industrial Average, 30 firms included in, illus., 514 DuPont framework analysis of ROE using, illus., 680 def., 679 ratios for selected U.S companies, illus., 681 Duties, segregation of, 193 E Earnings before income taxes, depreciation and amortizations (EBITDA), 620 Earnings (loss) per share (EPS), def., 41, 362 Earnings management continuum, illus., 197 is it ethical, 199 reasons for, 195 Effective rate of interest, 470 Effective-interest amortization, 481 def., 478, 578 Efficiency, 682 accounts receivable, 683 inventory, 683 property, plant, and equipment, 684 ratios, 680, 682 Employee compensation, 344 Employee stock options def., 347 fair value method, 348 Employees, 12 Ending inventory and cost of goods sold, 288 income effect of an error in, 296 Entity, def., 49 Environmental liabilities, def., 356 EPS See earnings (loss) per share Equity and debt securities, different classification for, 566 financing, raising, 516 items that bypass the income statement, 531 other items, 531 owners’, 32 return on, 673, 675 section for Dow Jones & Company, illus., 532 statement of stockholders’, 42, 533 stockholders’, 34 Equity method accounting for equity investments using, 580 def., 565 illustrating, 581 Equity securities (stock) accounting for, illus 582 classification of, illus., 564 def., 564 Errors, 187 in accounts and ledgers, 188 in ending inventory, income effect of, 296 in the reporting process, types of, 188 in transactions and journal entries, 188 inventory, 306 Estimates with full disclosure, change in methods or, 198 Estimates with little or no disclosure, change in methods or, 198 Ethics in accounting, 17 personal, 200 Exchanging property, plant, and equipment, 410 Expense bad debt, 239 calculating and recording depreciation, 399 capitalize versus, 358 def., 39 in the accounting equation, 84 large noncash, 687 other revenues and, 360 prepaid, 138 Expense/asset continuum, illus., 358 External audit, 47 def., 203 External expectations, 196 Extraordinary items, def., 360 F Face value, 469, 470 accounting for bonds payable issued at, 473 bonds issued at, 471 Fair value method, employee stock options, 348 Fair value of an intangible, estimating, 413 FICA See Social Security taxes FIFO (first in, first out) cost flow assumption, 300 def., 298 Financial accounting, def., 10 Financial Accounting Standards Board (FASB), def., 14 Financial data for Microsoft for 2005, selected, illus., 671 Financial information, other users of, 11 Financial position, statement of, 31 Financial ratios and the relationships among the financial statements, illus., 675 def., 669 summary of selected, illus., 674 widely used, 671 Financial reporting, fraudulent, 189 Financial statement(s), 30 common-size, 676 comparative, 35, 37 consolidated, 565, 582, illus., 584 def., 10 don’t contain all information, 689 financial ratios and the relationships among, illus., 675 General Motors: notes to, illus., 146 general-purpose, 31 how they tie together, illus., 45 illustration from ExxonMobil, 349 impact comparison, inventory costing methods, 302 items, illus., 344, 455, 515, 562 notes to, 46 pension-related items in, 349 preparing, 143 primary, 32 to prepare a statement of cash flows, analyzing other primary, 623 Financial statement analysis, 147 anchoring, adjustment, and timeliness 690 def., 669 lack of comparability, 690 need for, 669, illus., 670 potential pitfalls, 689 search for smoking gun, 690 Financing activities, 618 def., 43, 228, 619 noncash investing and, 619 Finished goods, def., 286 First in, first out See FIFO Fiscal year, def., 132 Fixed asset turnover def., 416 industry differences in, 416 Floor, def., 312 Flow of cash, illus., 617 Subject Index FOB (free-on-board) destination, def., 287 FOB (free-on-board) shipping point, def., 287 Foreign Corrupt Practices Act (FCPA), def., 191 Foreign currency transaction, def., 250 Foreign currency translation adjustment, 531 Form 10-K, 207 Form 10-Q, 208 Formation, ease of proprietorship and partnership, 517 Franchise, def., 412 Frauds, 187 Fraudulent financial reporting, 189 Fundamental concepts and assumptions, 49 Future value concepts, 455 Future value of a single amount, computing, 457 G GAAP oval, def., illus., 199 Gains (losses) def., 41 on available-for-sale securities, unrealized, 531 realized, 570 unrealized, 571 General journal, illus., 87 General ledger, posting to, illus., 99 General-purpose financial statements, 31 Generally accepted accounting principles (GAAP), 13 def., 14 Generally accepted auditing standards (GAAS), def., 203 Going concern assumption, 50 def., 51 Goods finished, 286 on consignment, 287 selling of, 91 Goods in transit, 287 ownership transfer for, illus., 288 Goods sold calculating cost of, 295 cost of, 285, 286 Goodwill, 413 and other intangible assets, acquisition costs of, illus., 413 def., 399 Government agencies, 12 Government regulation, corporation, 519 Gross margin method, def., 314 Gross profit (gross margin), def., 40 Gross sales, def., 236 Growth, rapid, 687 H Held-to-maturity securities accounting for, 574 def., 565 Historical cost, def., 50 I Impairment def., 407 of asset value, recording, 407 of intangible assets, 415 test, illus., 408 Income determining accrual, illus., 133 effect of an error in ending inventory, 296 measurement, problem of, illus., 131 net, 39 taxes, 352 See also Comprehensive income Income smoothing, 196 def., 197 illus., 196 Income statement (statement of earnings), 10, 38 and balance sheet accounts, how they relate to the statement of cash flows, illus., 619 and balance sheet, illus., 103 def., 31 differing formats, 363 equity items that bypass, 531 for Microsoft, common-size, illus., 676 for Safeway, adapted comparative, illus., 40 format of, 39 illus., 144, 361 summarizing operations on, 360 Independent accountants, effect of the 1934 Act on, 208 Independent auditors’ report, WalMart’s 2006, illus., 205 Independent checks, def., 194 Indirect method, def., 629 Information about summary totals, additional, 46 collecting, 76 financial statements don’t contain all, 689 from the statement of cash flows, using to make decisions, 635 not recognized, disclosure of, 46 reported in the statement of cash flows, 616 supplementary, 47 technology, impact of, 290 Initial public offering (IPO), 519 Initial purchase, accounting for, 574 Intangible assets, 391 SI-5 accounting for, 411 acquisition costs of goodwill and other, illus., 413 amortization of, 414 def., 392 estimating the fair value of, 413 impairment of, 415 Interest capitalized, 397 market, effective, or yield rate of, 470 stated rate of, 470, 471 Interest dates accounting for bonds purchased between, 575 investing between, illus., 576 Interest-bearing notes, 462 Internal auditors, 202 def., 203 Internal control structure, def., 191 Internal earnings targets, def., 196 Internal Revenue Service (IRS), def., 15 Internal targets, 196 International Accounting Standards Board (IASB), 359 def., 16 International Accounting Standards Committee (IASC), 16 International business, 15 International Financial Reporting Standards (IFRS), 16 International Trade Commission, 12 Interviews, 204 Inventory, 139, 285 assessing how well companies manage, 303 at amounts below cost, reporting, 311 cost of goods sold and ending, 288 costing, 295 counting of, 295 def., 286 efficiency, 683 errors, 306 evaluating the level of, 303 how much companies have, illus., 285 income effect of an error in ending, 296 method of estimating, 313 purchases and sales, accounting for, 289 shrinkage, def., 296 systems, overview of perpetual and periodic, 289 taking a physical count of, 295 time line of business issues involved with, illus., 286 turnover, def., 303 valued at lower of cost or market, 311 valued at net realizable value, 311 who owns, 287 Inventory cost, costs included in, 287 SI-6 Subject Index Inventory cost flow assumptions, 297, 304 specific identification, 298 Inventory costing methods comparison of all, 301 conceptual comparison, 301 financial statement impact comparison, 302 Investing activities def., 43, 228, 618 noncash, 619 Investing between interest dates, illus., 576 Investment securities, time-line of business issues associated with buying and selling, illus., 568 Investments accounting for equity, using the equity method, 580 accounting for the return earned on, 569 accounting for the sale or maturity of bond, 579 and operations, Berkshire Hathaway, illus., 560 difference between loan and, 516 why companies invest in other companies, 561 Investor financing, time line of business issues involved with, illus., 516 Investors, 11 IPO, window dressing for, 197 Issuance price, determining bond, 469 J Journal def., 86 general, illus., 87 Journal entries compound, 92 def., 86 errors in, 188 note on, 95 perpetual and periodic, 290 posting of, 97 Journalizing, def., 86 Judgment, disagreements in, 189 Junk bonds, 468 def., 469 Justice Department, 12 L Last in, first out See LIFO Lease capital, 395 classifying, 396 def., 394 obligations, accounting for, 465 operating, 394, 467 payments, schedule of computer, illus., 466 Leasing, assets acquired by, 394 Ledger def., 98 errors in, 188 Lenders, 10 Lessee, def., 394 Lessor, def., 394 Leverage, 682 def., 681 Leverage ratios, 681 more, 685 Liabilities accounting for contingent, illus., 356 common, illus., 33 current, 35, 37 def., 32 environmental, 356 limited, 518 long-term, 35, 37, 455, 461, illus., 462 proprietorships and partnerships unlimited, 517 unrecorded, 136 LIFO (last in, first out) complications of the perpetual method with, 309 cost flow assumption, 300 def., 298 Limited liability company (LLC), 519 def., 518 partnerships (LLPs), 519 Limited life, proprietorships and partnerships, 517 Liquidity, 35 def., 36, 671 Loan difference between and investment and, 516 window dressing for, 197 Long-term assets, 35 def., 37 Long-term liabilities, 35 accounting for, 461 def., 37, 455 measuring, 455 time line of business issues involved with, illus., 462 Long-term operating assets deciding whether to acquire, 392 def., 390 nature of, 391 time line of business issues involved with, illus., 391 Loss, net, 39 Losses, 41 on available-for sale securities, unrealized gains and, 531 realized gains and, 570 unrealized gains and, 571 Lower of cost or market inventory valued at, 311 (LCM) rule, def., 311 M MACRS See Modified Accelerated Cost Recovery System Management, 11 constraints on, 202 letter, IBM Corporation’s 2005, illus., 195 Management accounting, def., 10 Manufacturing overhead, def., 287 Margin, gross, 40 Market Adjustment—Trading Securities, def., 571 Market rate (effective rate or yield rate) of interest, def., 470 Market value def., 37 for the ten largest U.S firms., book value and, illus., 38 Matching principle, def., 133 Materials, raw, 286 Maturity bond retirements before, 475 of bond investments, accounting for the sale or, 579 value, 469, 470 Mechanics of accounting, 84 Methods or estimates, change in, with full disclosure, 198 with little or no disclosure, 198 Minority interest, def., 583 Modified Accelerated Cost Recovery System (MACRS), 419 Monetary measurement, 50 def., 51 Money, time value of, 392 Mortgage amortization schedule, def., illus., 464 Mortgage payable, def., 463 N National Center for Continuing Education, 197 Natural resources def., 404 units-of-production method, 404 Net assets, def., 33 Net income and cash flows from operations, Home Depot’s, illus, 614 (net loss), def., 39 top ten U.S companies ranked by, illus., 40 Net purchases, def., 294 Net realizable value def., 311 inventory valued at, 311 of accounts receivable, def., 240 Net sales, def., 236 Nominal accounts, def., 148 Noncash expenses, large, 687 Subject Index Noncash investing and financing activities, 619 Noncash items, def., 625 Noncash transactions, def., 634 Nonprofit organization, def., Note disclosure, Safeway’s, illus., 47 Notes, 145 interest-bearing, 462 Notes to the financial statements def., 46 General Motors, illus., 146 NSF (not sufficient funds) check, def., 247 Number of days’ purchases in accounts payable, 304 def., 305 Number of days’ sales in inventory, def., 303 O Observation, 204 Operating activities, def., 43, 228, 616 Operating lease, 467 def., 394 Operations and investments, Berkshire Hathaway, illus., 560 Operations on an income statement, summarizing, 360 Organizational structure, def., 192 Organizations, other, 14 Other revenues and expenses, def., 360 Overhead, manufacturing, 287 Owners’ equity def., 32 sources of, illus., 33 Ownership corporation transferability of, 518 transfer for goods in transit, illus., 288 P Par value, def., 521 Partial-year depreciation calculations, 403 illus., 404 Partnership, def., 517 Patent, def., 411 Payroll, 345 Pension, 348 def., 348 postretirement benefits other than, 350 Pension-related items in the financial statements, 349 Performance, independent checks on, 194 Periodic journal entries, 290 payments, computing, 460 reporting, 131 Periodic inventory system, 289 def., 290 Perpetual inventory system, def., 289 journal entries, 290 method with LIFO and average cost, complications of, 309 Personal ethics, 200 Physical control over assets and records, 193 Physical safeguards, def., 193 Post-closing trial balance, 149 def., 150 illus., 150 Postemployment benefits, def., 348 Posting, 97 def., 98 to the general ledger, illus., 99 Postretirement benefits other than pensions, 350 Preferred stock convertible, 520 def., 520 Premium accounting for bonds issued at, 480 accounting for the amortization of bond discounts and, 576 bond, 470, 471 bonds issued at, 472, 478 Prepaid expenses, def., 138 Present value concepts, 455 of a single amount, computing, 456 Present value of an annuity computing, 459 def., 459 of $1 per number of payments, Table II, illus., 485 Present value of $1 def., 455 due in n periods, Table 1, illus., 484 Press, 12 Preventative controls, def., 192 Price-earnings (PE) ratio, 675 def., 673 for several U.S companies, sample of, illus., 674 Primary financial statements, def., 31 Principal (face value or maturity value), 469 def., 470 Problems safeguards designed to minimize, 190 types of, 187 Profit, gross, 40 Profitability, 682 ratios, 680 Property taxes, 351 Property, plant and equipment accounting for acquisition of, 393 SI-7 def., 391 discarding, 409 disposal of, 409 efficiency, 684 evaluating the level of, 416 exchanging, 410 items included in the acquisition cost of, illus., 393 measuring efficiency, 416 recording decreases in the value of, 407 recording increases in the value of, 408 repairing and improving, 405 selling, 410 Proprietorship, def., 517 Prospectus, def 519 Public Company Accounting Oversight Board (PCAOB), 15 def., 201 Purchase, 291 accounting for initial, 574 assets acquired by, 394 basket, 397 discounts, 292 net, 294 of securities, accounting for, 568 returns, 291 Q Quantity count, 295 R Ratio(s) assets-to-equity, 679 cash flow, 686, 687 cash flow adequacy, 688 cash flow-to-net income, 687 current, 671, 672, 675 debt, 476, 671, 675 debt-to-equity, 476, 685 dividend payout, 530 efficiency, 680, 682 financial, 669, illus., 674 leverage, 681, 685 price-earnings (PE), 673, 675 profitability, 680 times interest earned, 477, 686 Raw materials, def., 286 Real accounts, def., 148 Realized gains and losses, def., 570 Receivables assessing how well companies manage, 244 def., 237 estimating uncollectible accounts receivable as a percentage of total, 241 unrecorded, 136 Recognition, 46 revenue, 231 Recognizing revenue, 230 SI-8 Subject Index Records adequate documents and, 193 physical control over assets and, 193 Registered bonds, def., 468 Registration statements, 207 Reporting process, types of errors in, 188 Research and development, 359 Retained earnings def., 34, 526 See also Statement of retained earnings Return earned on an investment, accounting for, 569 Return on equity, 675 def., 673 using the DuPont framework, analysis of, illus., 680 Return on sales, 675, 679 def., 672 Returns and allowances, sales, 235 purchase, 291 sales, 293 Revenue recognition, 132 criteria, application of, 232 def., 231 Revenue recognition principle, 132 def., 133 Revenues def., 38 in the accounting equation, 84 recognizing, 230 unearned, 140 Rules of thumb, 631 S Safeguards designed to minimize problems, 190 Sale of securities, accounting for, 570 Sale or maturity of bond investments, accounting for, 579 Sales, 292 accounting for inventory purchases and, 289 gross, 236 net, 236 recording warranty and service costs associated with, 245 return on, 672, 675, 679 Sales discount, def., 234 Sales returns, 293 Sales returns and allowances, 235 def., 235 Sales tax payable, def., 351 Sales taxes, 351 Salvage value, 399 def., 400 Sarbanes-Oxley Act, 15, 201 def., 191 Secured bonds, def., 468 Securities available-for-sale, 531, 566, 568, 571 changes in the value of, 571 classification and disclosure of, illus., 567 classifying, 564 debt, 564, 566, illus., 564 equity, 564, 566, illus., 564 equity method, 565 held-to-maturity, 565, 574 purchase of, 568 sale of, 570 time-line of business issues associated with buying and selling investment, illus., 568 trading, 566, 568, 571 Securities and Exchange Commission (SEC), 12 def., 14, 207 Segregation of duties, def., 193 Self-construction, assets acquired by, 397 Separate entity concept, def., 49 Serial bonds, 468 def., 469 Service costs associated with a sale, recording warranty and, 245 Services, providing of, 91 Share owners’ equity for General Electric, illus., 523 Shareholders, 33 Shrinkage, inventory, 296 Simplified adjusted trial balance, illus., 144 Social Security (FICA) taxes, def., 345 Specific identification, def., 298 Stated rate of interest, 470 def., 471 Statement of cash flows, 10, 43 a six-step process for preparing, 625, 626 analyzing the other primary financial statements to prepare, 623 def., 31, 615 for Safeway, Inc., illus., 44 how balance sheet and income statement accounts relate to, illus., 619 illus., 104, 616 information reported in, 616 preparing, 620 using information from to make decisions, 635 Statement of comprehensive income def., 532 for Dow Jones & Company, illus., 532 Statement of earnings, 31 Statement of financial position, 31 Statement of retained earnings, 41 def., 42 for Safeway, illus., 42 Statement of stockholders’ equity, 42 def., 533 for Dow Jones & Company, illus., 533 Stock, 564 accounting for, 521 capital, 34, 35 common, 520 convertible preferred, 520 issuance of, 521 options, 347 performance for Yahoo! and Amazon.com, illus., 227 preferred, 520 price per share, history of Microsoft’s, illus., 668 repurchases, accounting for, 523 treasury, 523 Stockholders (shareholders), def., 33, 519 Stockholders’ equity def., 34 for Boston Lakers, illus., 525 for Dow Jones & Company, statement of, illus., 533 statement of, 42, 533 Straight-line amortization, def., 478, 576 Straight-line depreciation method def., 400 schedule with, illus., 400 Strategic matching, 198 Summary totals, additional information about, 46 Sum-of-the-years’-digits (SYD) depreciation method def., 419 schedule with, illus., 420 Supplementary information, 47 Suppliers, 11 Supplies, 139 T Table I: Present value of $1 due in n periods, illus., 484 Table II: Present value of an annuity of $1 per number of payments, illus., 485 Table III: Amount of $1 due in n periods, illus., 486 Table IV: Amount of an annuity of $1 per number of payments, illus., 487 T-account, def., 81 Taxation, double, 519 Taxes, 351 deferred example, 353 income, 352 property, 351 sales, 351 Technology, 17 impact of information, 290 Subject Index Term bonds, 468 def., 469 Time line of business issues buying and selling investment securities, illus., 568 inventory, illus., 286 investor financing, illus., 516 long-term liabilities, illus., 462 long-term operating assets, illus., 391 Time value of money, def., 392 Time-period concept, def., 132 Times interest earned def., 477 ratio, 686 Trademark, 412 Trading securities accounting for, 568 changes in the value of, 571 def., 566 market adjustment, 571 Transactions, 49 arm’s-length, 50 assumption of arm’s length, 49 def., 50 errors in, 188 fictitious, 198 foreign currency, 250 how they affect the accounting equation, 79 record the effects of, 86 sample of, 204 summary of, illus., 96–97 using accounts to categorize, 80 Transferability of ownership, corporation, 518 Transit, goods in, 287 ownership transfer for, illus., 288 Transportation costs, 291 Treasury stock, def., 523 Trial balance def., 102 illus., 102 post-closing, 149, 150, illus., 150 preparing of, 97 simplified adjusted, illus., 144 Turnover accounts receivable, 244 asset, 672, 675 fixed asset, 416 industry differences in fixed asset, 416 inventory, 303 U Uncollectible accounts receivable estimating as a percentage of credit sales, 241 estimating as a percentage of total receivables, 241 Unearned revenues, def., 140 Units-of-production method def., 400 of depreciation, 402 schedule with, illus., 402 with natural resources, 404 Unlimited liability, proprietorships and partnerships, 517 Unrealized gains and losses def., 571 on available-for-sale securities, 531 Unrecorded liabilities, def., 136 Unrecorded receivables, def., 136 Unsecured bonds, 468 V Value bond carrying, 481 bonds issued at face, 471 book, 37, 399 face or maturity, 469, 470 market, 37 of securities, accounting for changes in, 571 par, 521 salvage, 399, 400 subsequent changes in, 572 Value concepts, present and future, 455 Value of property, plant, and equipment recording decreases in, 407 recording increases in, 408 Venture capital firm, def., 226 W Warranty and service costs associated with a sale, recording, 245 Window dressing for an IPO or a loan, 197 time, 687 Work in process, def., 286 Work sheet, def., 147 Y Year calendar and fiscal, 132 Yield rate of interest, 470 Z Zero-coupon bonds, 468 def., 469 SI-9 This page intentionally left blank INDEX REAL COMPANY INDEX A Acme Building Brands, 560 Adelphia, 187 Advanced Micro Devices (AMD), 24–25 Albertson’s, 30 Alcoa Inc., 514 Allstate, 284 Altria Group Inc., 40, 356, 514 Amazon.com, 227, 650 American Express Co., 237, 514, 560 American International Group Inc., 38, 40, 514 American Stores, 30fn Ameriprise Financial, Inc., 560 Amoco, 342 Anderson, Delaney & Co., Anheuser-Busch Cos., Inc., 560 Anicom, 187 AOL, 408 AOL Time Warner, 408, 687 Apple Computer, 671, 672–673, 680, 690 Arthur Andersen, 4, 13, 203 Ashland, 342 AT&T Inc., 514 Atlantic Richfield, 342 B Bank of America Corp., 38, 40, 230, 277 Ben Bridge Jeweler, 560 Berkshire Hathaway, 526, 560–561, 563, 566, 567, 569, 570, 573, 581, 606, 674 Bethlehem Steel, 514 Boeing, 11, 79, 233, 244–245, 514 Borsheim’s Fine Jewelry, 560 Bristol-Myers Squibb, 275 British Petroleum (BP), 342, 509 Buick, 130 Burger King, 9, 79 C Cadillac, 130 Campbell Soup Company, 182 Caterpillar, 303r, 304, 514 Cathay Pacific Airways, 217 Cendant, 187 Chambers Development Company, 218 Chevrolet Motor Company, 130 Chevron, 342, 682–686 ChevronTexaco, 40, 342 Chrysler, 16, 720–721 Circle K, 217 Circuit City, 215 Cisco Systems, 11 Citicorp, 240, 508 Citigroup Inc., 38, 40, 508, 514 City Bank of New York, 508 Coca-Cola Amatil Ltd., 563 Coca-Cola Company, The, 12, 32, 412, 412, 514, 523, 560, 563, 581, 606, 650, 661–662, 672 Coca-Cola Enterprises, 563 Coldwell Banker, 284 Colgate-Palmolive, Conoco, 342 ConocoPhillips, 342 Corel, 563 CVS, 296 D Daewoo, 278 Daimler-Benz, 16, 720–721 DaimlerChrysler, 16, 130, 720 Dean Witter, 284 Deloitte & Touché, 146, 203 Delta Air Lines, 4, 79, 672 Diageo, 71–72 Disney See Walt Disney Company, The Disney Brothers Studio, 454 Dow Chemical, 672 Dow Jones & Company, 514, 515, 520, 521, 526, 530, 531–534 DuPont Company, 720 E Edison Electric Light Company, 390 E.I Dupont de Nemours & Co., 514 Emi Group, The, 556 Enron, 4–5, 13, 17, 187, 203, 674, 718–719 Ernst & Young, LLP, 48, 203 Esso, 343 Exxon, 342 ExxonMobil, 38, 40, 63, 342, 347, 349–350, 352, 357, 359, 390, 398, 514, 650, 682–686 F Federal Express (FedEx), 4, 18, 448, 190, 681, 689 FlightSafety, 560 Ford Motor Company, 63, 130, 363, 528 Fruit of the Loom, 560 G GE Capital Services, 396, 401, 402, 416 GEICO, 560 CI-2 Real Company Index General Electric (GE), 11, 12, 38, 40, 227, 338, 390, 391, 396, 398, 401, 411, 412, 416–417, 420, 514, 514, 515, 523, 530 General Motors, 25, 26, 130, 131, 133, 142, 143–147, 149–150, 227, 246, 380, 398, 469, 514, 720 GlaxoSmithKline, 662–664 Global Crossing, 187 Google, 38, 673 H Helzberg Diamonds, 560 Hershey Foods, Hewlett-Packard, 457–461, 471–473, 514 Hilton Hotels, Home Depot, 181, 514, 614–615, 674, 681, 689, 722 Homestore, 187 Honda, 130 Honeywell International Inc., 514 Hutchison Whampoa Limited, 381 Hyundai, 278 I IBM See International Business Machines Intel, 24–25, 412, 514, 525 International Airline Support Group, Inc., 288 International Business Machines (IBM), 16, 38, 46, 49, 194–195, 277–278, 363, 380–381, 412, 507, 514 International Dairy Queen, 560 J J P Morgan, 25 J P Morgan Chase & Co., 514 Johnson & Johnson, 38, 40, 514 Jordan’s Furniture, 560 K Kmart, 284 Kohlberg, Kravis, Roberts & Co (KKR), 30, 47 KPMG, 203 Kroger, 30 L Land’s End, 284 La-Z-Boy, Inc., 338 LDDS (Long distance Discount Service), 186 Lucky Goldstar, 278 M Marlboro, 412 Marriott Corporation, 63 MasterCard, 237 McDonald’s Corporation, 9, 11, 76, 79, 125–126, 230, 285, 338, 398, 412, 514, 672 MCI, 186 Merck & Co Inc., 4, 275, 514 Merrill Lynch, 30 Microsoft, 10, 12, 17, 32, 33, 38, 232, 277–278, 285, 343, 412, 514, 515, 521, 524, 527, 530, 563, 566, 605, 650, 668–682, 687–688, 690–691 Microstrategy, 227 Mobil, 342, 343 Moody’s Corporation, 469, 560 N Nebraska Furniture Mart, 560 Nokia, 412 Novell, 563 O Oakland, 130 Oldsmobile, 130 P Pampered Chef, 560 Pennzoil-Quaker State, 342 PepsiCo, 12 PetroChina “H”, 560 Pfizer Inc., 38, 40, 514 Phar-Mor, 206 Philip Morris, 356 Phillips, 342 Pixar, 687 Pontiac, 130 PricewaterhouseCoopers, 203, 217 Procter & Gamble Company, The, 25, 514, 560 Q Qwest, 4fn, 187 R R C Willey, 560 R W Sears Watch Company, 284 Radio Shack, 10 Regina, 190, 198 Rent-A-Center, 233 Royal Dutch/Shell, 342 Ruby Tuesday’s, 38 S Safeway, 30, 33, 35–36, 39, 40, 41–42, 43–44, 46–47, 48, 50, 71, 303 Samsung, 278 Sears, Roebuck & Company, 10, 237, 284, 303, 304–305, 515, 674 See’s Candies, 560 7-Eleven, 217 Shanghai Petrochemical Company Limited, 126 Shell, 237 Silo, 215 Sonae Distribuicao Brasil S.A., 398 Real Company Index Sony Corporation, 606–607 Southwest Airlines, 681, 688, 689 Standard and Poor’s, 469 Standard Oil Company of New Jersey, 342 Standard Oil Company of New York, 343 Star Furniture, 560 Sunbeam, 4fn, 187 Swire Pacific, Ltd., 217, 449 T Texaco, 342 Thomson-Houston Electric Company, 390 3M Co., 514 Time Warner, 408 Tokyo Tsushin Kogyo, 606 Tosco, 217 Toyota, 130, 412 Travelers Group, 508 Tyco, 5, 17, 187 U U.S Steel, 448–449 Union Pacific Corporation, 555–556 United Technologies Corp., 514 UPS, 18 V Verizon Communications Inc., 186, 514 VISA, 237 CI-3 W Walgreen, 30 Wal-Mart Stores, Inc., 8, 11, 12, 18, 26, 31, 37, 38, 40, 46, 47, 48, 63, 70, 72, 124, 125, 181, 205, 215, 216–217, 218, 227, 230, 236, 244–245, 250, 277, 284, 338, 356, 363, 380, 398, 447–448, 507, 514, 516, 523, 524, 554, 560, 651, 661, 672, 674, 681–682, 689, 719 Walt Disney Company, The, 398, 412, 454, 463, 467, 476–477, 514, 681, 689, 720 Washington Post Company, The, 560 Waste Management, 4fn, 187, 190, 203 Wells Fargo & Company, 560 Wendy’s, Weyerhaeuser Company, 361, 362 WorldCom, 4–5, 13, 17, 186, 187, 191, 199, 203 X Xerox, 187, 198 Y Yahoo!, 226–227, 228, 230, 232, 243, 515, 674 Z ZZZZ Best, 274–275 ... other $ 1,366 10,044 25 ,811 2, 157 $ 39,378 1,5 62 9,617 25 ,811 2, 157 $ 39,147 $ $ 32, 941 23 ,20 8 3, 327 2, 889 1,609 2, 834 $ 72, 355 $111,733 ... Equipment leased to others $22 ,874 $22 ,391 2, 431 18,900 $44 ,20 5 2, 389 17,989 $ 42, 769 4 02 Part Investing and Financing Activities Using this information, one... Straight-Line Depreciation Units-of-Production Depreciation $ 5,500 5,500 5,500 5,500 $22 ,000 $ 4,400 6,600 7,700 3,300 $22 ,000 404 Part Investing and Financing Activities EXHIBIT Method Straight-line