finanacial accouting williams

8/17/2019 Finanacial Accouting Williams

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FINANCIAL ACCOUNTING (Williams et al.)

Suggested Answers for !our Turn" #ases

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!ou as a CreditorAs a creditor, you are interested in the borrower’s ability to repay the $10,000 that she borrows, plus an additional amount for the use of your bank’s money for the time the loanis outstanding. Information that would assist you in making a decision regarding thecreditworthiness of the potential borrower would include employment and incomeinformation, other expenses that she must pay for example, rent or house payment!, andher history of borrowing and repaying loans. In other words, you are interested in the borrower’s "cash flow prospects,# or her ability to repay the amount of the loan, plus afee for the use of the bank’s money called interest! in accordance with the agreementreached at the time the loan is made.

!ou as a 'rofessional A##ountanthis situation puts you in a %ery difficult position. &n the one hand, you want to do theright thing and, in your opinion, that in%ol%es an in'depth study of the problem you ha%efound. &n the other hand, you are pulled in the direction of doing what your superior saysto do because you must respect her position as your superior. (ou may want to discusswith your superior the potential implications of the irregularities that you ha%e found andtry to con%ince her that some additional effort to better understand what is going on may be %ery important. (ou may want to discuss this with a peer or another person not directlyin%ol%ed in your engagement but whose opinion you %alue. (ou may want to talk with a person higher up in the organi)ation than your superior, although you should be careful toa%oid creating a conflict with your superior. (ou probably should keep a record of the

steps you ha%e taken to resol%e the situation and certainly keep your eyes open for a pattern of similar beha%ior that may be a signal to you that you need to consider a *obelsewhere. Also, if you are responsible for auditing this area and you belie%e that theaudit procedures employed to date are insufficient, following your superior’s instructionswill generally not be an ade+uate defense if regulators or pri%ate litigants name you in alawsuit. imply following orders was not an ade+uate defense at the -uremberg rials-a)i war crimes trials!, it was not an ade+uate defense for ieutenant /alley in ietnam,and it is not an ade+uate defense in business.

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!ou as a ome Owner

In both situations, sales of comparable homes in the same location pro%ide informationabout the %alue of your home. owe%er, as your home has not been recently sold, thespecific home %alue asset %alue! is unknown. he ethical dilemma arises in preciselywhat ob*ecti%e information to report. 2or example, if 10 homes in the immediate areaha%e sold within the last three months, which of those sales would you report3 If the realestate assessor’s office asked for three comparable sales, what information might be


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pro%ided3 he assessor’s office will be concerned about the ob*ecti%ity of the reportingchoices made by the home owner.4ecause home owners wish to minimi)e their tax burden, many municipalities employ acity property appraiser to %erify the %alue of real estate. his appraiser assesses whether the current assessment amount is a fair representation of a house’s current market %alue.

Alternati%ely, because home owners wish to maximi)e the sales price of their homes,they might choose different comparable home sales prices to report to a buyer than thosechosen for the real estate assessor. hus, although buyers may re+uest comparable homesales information from the seller, they will usually undertake their own in%estigation i.e.hire their own appraiser! to %erify the %alue of the home.

he ethical issues are related to ob*ecti%e not selecti%e! reporting. a%ing independent parties make an independent assessment of the market price of your home mitigates someof the ethical issues related to ob*ecti%e reporting.

!ou as a Creditor

he primary factor you would want to consider is when the notes payable listed on&%ernight’s balance sheet must be paid. If the notes payable must be paid within the nextyear, &%ernight has more than twice as much in current liabilities than it has in currentassets. A current ratio of .5671 indicates that &%ernight may ha%e difficulty paying its bills as they become due. And, gi%en &%ernight’s modest profit of $600, it probably willnot be able to generate sufficient cash flow to pay $89,000 of liabilities within the nextyear. &ne alternati%e would be to lend to &%ernight, sub*ect to recei%ing a personalguarantee of the debt from &%ernight’s owners. In essence, the personal assets of &%ernight’s owners would ser%e as additional collateral for the credit that your companyis pro%iding &%ernight.

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!ou as O+ernig$t Auto Ser+i#e,s A##ountant

(ou should tell 2red :onas that the information he re+uests is confidential and you cannotdisclose it to him. ;any professional entities, including International 2ederation of Accountants I2A/!, ha%e established a code of ethics that includes a re+uirement of confidentiality. /onfidentiality means that accounting personnel should refrain fromdisclosing confidential information. he re+uest from 2red :onas would re+uire you to%iolate the confidentiality re+uirement. 2or more information on the I2A/’s code of ethics, %isit its


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!ou as O+ernig$t Auto,s Ser+i#e e%artment /anager

It is true that &%ernight Auto might consider the items 4etty took home as immaterial tothe preparation of its financial records. hus, &%ernight Auto might choose to account for screwdri%ers and cans of oil in the easiest and most con%enient manner, that is, byexpensing the costs as they are incurred.

owe%er, the materiality issue is unrelated to the ethical issue of stealing from thecompany. 4etty should either be fired or asked to return and=or replace the missing items.Another option would be to put 4etty on probation and monitor supplies for missingitems. As the manager of the department, you might wish to implement sign'out procedures for supplies that would allow you to monitor the use and location of e+uipment used in ser%icing %ehicles.

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!ou as O+ernig$t Auto,s Inde%endent Auditor

>ending lawsuits are usually disclosed in the notes to the financial statements only if there is reasonable certainty that the defendant will incur a significant loss. hus,&%ernight need not disclose its pending lawsuit if the risk of it sustaining a material lossis remote. his is certainly an issue re+uiring the professional *udgments of thecompany’s management, accountants, legal counsel, and auditors.

!ou as a Finan#ial Anal1st 2+aluating O+ernig$t Auto Ser+i#e

(ou should tell the owner that financial ratios are most useful for e%aluating a company’s performance when a basis for comparison exists. &ften the basis for comparison is the performance of other companies in the same industry. (ou might ask the owner for financial statements of competing companies so that you can compare &%ernight’s performance against its peer group. In other cases, the company’s past performanceser%es as the basis for comparison. &%ernight has been in business for only one year, butin the future, its performance can be assessed by e%aluating how well it has performedfrom one year to the next.

It is not possible to compare &%ernight’s relati%e performance against its peers from theinformation pro%ided? howe%er, the absolute le%el of &%ernight’s performance is %erygood. A profit percentage o%er 10 percent is impressi%e, and a return on e+uity of 58 percent is +uite high shareholders often expect returns in the range of 10 percent to 1@ percent!. 2inally, a current ratio abo%e 171 generally suggests the potential for a companyto meet its cash obligations as they come due. &%ernight’s current ratio is approximately@0 percent higher than this rough benchmark.

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!ou as t$e In+entor1 /anager for Com%uter Cit1

An issue of key importance in auditing in%entory is that the auditor be present when the physical in%entory count is made. A ma*or fraud disco%ered at the /#4esson 5 6o77inscompany in 186 moti%ated the accounting profession to change audit procedures to


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include the physical obser%ation of in%entory. >rior to that time, auditors a%oidedresponsibility for determining either the physical existence or the accuracy of the count of in%entory. In 189 /#4esson 5 6o77ins reported assets of B$69 million of whichapproximately B$10 million of in%entory was subse+uently determined to benonexistent. Although the auditor often coordinates the in%entory counts with

management, the auditor may want to take an in%entory count on a surprise basis.Auditing standards on fraud re+uire the auditor to incorporate an element of unpredictability into the auditing procedures. (ou should support the auditor’s access tothe physical in%entory. It is /omputer /ity’s responsibility to allow access to the physicalin%entory or the auditor may not issue an un+ualified audit opinion.

!ou as a 8u1er for a 6etail 8usiness

If 9a%an ome maintains perpetual in%entory records, these records would pro%ide ahost of information that would be useful to your purchasing decision. 2rom the perpetualin%entory records, you can determine the number, brand, and type of grills currently onhand and the number of each sold in prior summer seasons. his information will be %ery

useful in estimating the goods needs for the current season. If 9a%an ome does not ha%e perpetual in%entory records, you would be forced to make your decision without thisinformation about in%entory on hand and prior sales, or to spend a significant amount of time de%eloping the information.

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!ou as a Used Car 'ur#$aser


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Cays outstanding 89 days 51 days D1 days 98 days4ased on these data, it appears that the new credit policy was successful in two ways.2irst, o%er the four'year period, it resulted in the doubling of the company’s accountsrecei%able turno%er rate and thereby reduced its a%erage collection period from 98 daysto 89 days!. 2urthermore, the new policy successfully impro%ed the +uality of accounts

recei%able without ad%ersely affecting sales growth.

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!ou as t$e New Fa#ilit1 /anager for 2>er#ise?for?ealt$

(our ability to earn profits 10 percent o%er the budgeted amount will be impacted by theamount of the depreciation charge on the building. he amount of depreciation each year will depend on the dollar amount recorded for the building asset. hus, if you ask the bookkeeper to correct the building account, it may make it more difficult to achie%e your bonus. owe%er, it is your ethical responsibility to inform Fxercise'for'ealth’s

management about the error in the appraisal. ;anagement will respect your integrity.(our reputation for honesty and ethical beha%ior will be enhanced.

!ou as a Finan#ial Anal1st

/ompanies differ in their GHC expense'to'sales ratios primarily because the importanceof GHC expenditures in contributing to business success differs across industries. 2or example, success in the GHC function is essential to success in the life sciences industrygroup and among high technology companies. /on%ersely, gi%en the mature nature of theindustry and the commodity nature of its products, GHC success may be of lesser importance in the chemical industry as reflected by the low GHC expense'to'sales ratiosfor >etro/hina and inopec in Fxhibit !. he GHC expense'to'sales ratio also may beaffected by how many years a company has been in business and by the company’ssuccess profitability!.

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!ou as a Finan#ial Ad+isor

he interest payments generated by a bond remain constant, regardless of fluctuations inmarket interest rates that occur o%er the bond’s life. hus, if bond issuers consistentlyfulfill their responsibility to make timely interest payments, the couple’s annual cash flowfrom their in%estment will remain relati%ely stable throughout their retirement.2luctuations in market interest rates could ad%ersely affect the couple should they decideto sell any of their bonds before the bonds mature. If interest rates are relati%ely high atthe time the bonds are sold, their selling price may be substantially less than their redemption %alue at maturity.

!ou as a Credit Anal1st

he intern’s recommendation is too simplistic and is therefore flawed. ell is an excellentshort term credit risk.


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has B$0.6@ of +uick assets cash, short'term in%estments, and recei%ables! for e%eryB$1 of current liabilities. ell’s cash flow from operations is strong for the two years presented, B$8,5 million and B$8,D million. 2inally, ell is extremely profitableand is becoming more profitable o%er timeJin the two'year period reported, thecompany’s profit has grown from B$E.@08 billion to B$E.59 billion. ell’s high le%el

of li+uid current assets, its strong operating cash flows, and its profit performance suggestthat it is an excellent short'term credit risk.

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!ou as a Loan Offi#er

K&/AL does not appear to be a good credit risk for a $E00,000 loan. he companyhas few li+uid assets that can be used to repay a loan. Also, the proposed loan is %erylarge in relation to the small corporation’s assets and owners’ e+uity. 4ecause K&/ALis organi)ed as a corporation,


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generally would not be expected to be repeated in future years and, therefore, should beeliminated in predicting future amounts.


Con’t be misled by the negati%e trend in earnings per share F>! on profit7 $1.D0 to

$1.@1 to $1.1E. on income fromcontinuing operations7 $1.9@ to $E.@D to $8.0E. he discontinued operation figures, whichare between income from continuing operations and profit, relate to a part of the businesswhich is no longer part of the company. 4y far the best predictor of future earnings isincome from continuing operations which should be the primary factor in your e%aluation.

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!ou as a Sales /anager

It is ethical for companies to make loans to their customers so that their customers can place orders for their products. his is called "%endor financing,# and it is a useful sellingtechni+ue in moderation.

owe%er, unny 2oods td. must be careful so that it doesn’t end up buying its own product. he problem is, the sale may not be real re%enue? it might be a bad noterecei%able. 2or this reason, many companies ha%e policies against %endor financing. As asales manager, your responsibility is to check the corporate policy about %endor financing before you respond to 4aggins’s re+uest. /ompany policies of this nature are determined by top head+uarters management such as the president, %ice president of marketing,and=or the /F&.


4ased on the analysis below AQ7 Insert here7 ong Rong dollar amounts are inmillions3!, only COSCO meets your boss’s in%estment screens of free cash flow to cashflow from operations of @0 percent or more and di%idends to cash flow from operationsof E@ percent or more. 1san is also close to meeting these two criteria. 1san’s freecash flow is [email protected] percent of its cash flow from operations and di%idends of @5.5 percentof cash flow from operations are paid.


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(ou tell the prospecti%e client that the relati%e le%el of free cash flow free cash flow tocash flow from operations! is an important metric because it pro%ides a measure of a

company’s financial flexibility. A company with financial flexibility has the ability to+uickly take ad%antage of business opportunities without ha%ing to tap outside financingi.e., issuing new debt or e+uity!.

Bnexpected opportunities include the opportunity to buy other companies, to expand intonew markets, to introduce new products, and so on. A company with a high le%el of freecash flow to cash flow from operations also is better positioned to withstand an economicdownturn. he relati%e le%el of di%idends is an important metric for two reasons. 2irst, by paying a current period di%idend, in%estors recei%e an immediate and tangible return ontheir in%estment in the company’s shares. &%er long periods of time, di%idend payoutsha%e been an important source of market return on the in%estment in shares. /ompaniesthat generate substantial cash flows from operations but that don’t pay di%idends may putthese excess cash flows to unproducti%e uses, particularly if the company operates in aslow'growth industry. >aying di%idends imposes a discipline on management, reducingthe risk that cash flow will be spent unwisely. 2inally, you tell the prospecti%e client thatyoung, rapidly growing companies typically do not pay di%idends. hese firms belie%ethat cash flows from operations are best rein%ested in the business to help fund futuregrowth initiati%es. he funding of future growth initiati%es might in%ol%e buildingadditional producti%e capacity, in%esting in research and de%elopment acti%ities, in%estingin marketing campaigns to build market share, in%esting in the company’s infrastructurefor example, computer systems, distribution systems!, and building a cash cushion tohelp the company weather any economic downturns. In essence, companies that rein%estearnings belie%e that they can earn a higher return on the rein%ested funds thanshareholders could earn on the cash that they would ha%e to rein%est if the company’searnings were returned to them in the form of di%idends.

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!ou as a /em7er of t$e ouse of 6e%resentati+es


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here is no correct answer to whether the compliance burden imposed by the arbanes'&xley Act is excessi%e. here are three essential issues in this debate. he first is whether the additional re+uirements imposed by the arbanes'&xley Act &S! will lead toimpro%ed financial reporting. ince &S was only passed in E00E, /ongress needs timeto see if there is a decline in financial reporting fraud, earnings restatements, and

inappropriate earnings management. econd, /ongress needs to see whether publiccompanies are going pri%ate and whether the number of companies going public declinesafter &S. hird, e%en if &S impro%es financial reporting +uality, /ongress needs toassess whether the benefits of impro%ed financial information to in%estors and other financial statement users outweigh the compliance costs imposed on companies. hesecompliance costs include not only whether public companies go pri%ate and whether pri%ate companies choose not to go public, but also the actual costs incurred by thosecompanies that choose to remain public. hese costs as are all costs! will either be passed on to7 1! consumers in the form of higher prices, E! employees in the form of lower wages and fringe benefits, and=or 8! in%estors in the form of lower profits.In%estors might be willing to accept lower profits because of the compliance burden, if

their risk goes down as a result of an increase in the +uality of the information they nowha%e for decision making.

Although it is too early to definitely answer the abo%e +uestions, anecdotal e%idencesuggests that the compliance burden of &S will be significant? that some publiccompanies will go pri%ate? and that auditors, boards of directors, and management teamsare now more serious about financial reporting +uality. he compliance burden created by&S includes a significant increase in audit costs, higher costs to attract and retain boardmembers, and costs including opportunity costs! incurred by management indocumenting compliance with &S’s pro%isions. here ha%e been a number of publiccompanies that ha%e gone pri%ate since &S was passed, and some of these companiesspecifically refer to &S and the increased compliance burden as their reason for going pri%ate. 2inally, there also is e%idence that auditors, boards of directors, and managementteams are in%esting more resources to ensure high'+uality financial reporting. Auditorsha%e significantly expanded the amount of their audit testing, leading to the increase inaudit fees that companies are experiencing. 4oards of directors, and particularly the auditcommittee of the board, are meeting more often, for longer periods of time, and with agreater commitment to fulfilling their responsibility for o%erseeing the company’sfinancial reporting process. ;anagement teams are spending more time documenting,redesigning, and testing internal control systems? re%iewing the company’s financialreports? and, in a number of companies, creating or expanding the internal audit function.


2or your client who is primarily interested in the di%idends that will be recei%ed, youmight ad%ise him to e%aluate in%estment possibilities much as a short'term creditor would. his would focus attention on li+uidityJthe current and +uick ratios and theextent to which operating acti%ities are generating positi%e cash flows. Also, you shouldsuggest that he look at the company’s di%idend policy and the consistency with whichdi%idends ha%e been paid in the past. 2or the in%estor that is more interested in the market%alue of the share, you should suggest that he look at information that focuses on the


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long'term potential for the successful operation of the companies being consideredJ profit, growth o%er time in sales, and return on assets and shareholders’ e+uity. (oushould also suggest that he look at the pattern of changes in the %alue of the shares of thecompanies. 2or both in%estors, information in management’s discussion and analysis may be helpful in identifying companies that are consistent with the specific in%estment

ob*ecti%es of each client.

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!ou as a Consumer

If the ingapore dollar strengthens against the euro o%er the coming month, then goodsimported from Italy should cost customers in ingapore less. Koods imported from theBnited Ringdom should cost more as the ingapore dollar weakens against the pound. Asthe ingapore dollar strengthens, you can purchase more euros with each dollar?therefore, you should in%estigate the prices of racing bicycles imported from Italy. If you

belie%e the ingapore dollar will continue to strengthen o%er the coming month, youshould delay your shopping to get the greatest benefit from the exchange rate fluctuationstoward the end of the month.

finanacial accouting williams

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