Accounting for Non-financial Managers, 4th Edition

© Captus Press Inc. All Rights Reserved.

Chapter 2

2. You have just won the lottery, and you now have $250,000 cash available.
You intend to use this to buy your first house. Your best estimate of the legal fees
and closing fees is $25,000. You want to keep a further $25,000 available to buy
furniture and appliances. You expect the bank to ask you for a 20% down
payment. With current (2016) interest rates being very low, you expect that your
salary plus your wife’s salary will be seen as sufficient to qualify for a pretty large
monthly mortgage payment. As of 2016, the average price of a house in Toronto
is $1 million.

Required
What is the most expensive house you could consider buying within the limits
described above?
Total cash available $250,000
Less:
Legal fees & closing fees $25,000
Furniture 25,000 50,000
Deposit available $200,000
Divide by 20%: $1,000,000

You could afford to buy a house costing $1,000,000.

Chapter 2-1
 Accounting for Non-financial Managers, 4th Edition
© Captus Press Inc. All Rights Reserved.

Scenario #1: The following information pertains to Problems #4 to #6.

Annie and Jocasta decide to go into business together providing gourmet
catering services to the rich and famous. Their intention is that by doing this they
themselves will become rich and famous so that they can get someone to
provide gourmet catering services for them.
In the first month of business they have the following transactions:
(i) Annie has $15,000 of savings. Jocasta gets a personal loan of $15,000 from
her grandmother. They put this $30,000 into a partnership bank account to
start the business off.
(ii) They leased kitchen premises in a lock-up store near where they live for
$2,000 per month. The two-year rental agreement calls for payment of first
and last month’s rent in advance.
(iii) They bought a small delivery van for $5,000.
(iv) They spent $10,000 equipping the food preparation and cooking area and
buying serving dishes.
(v) At this point the bank balance is reduced to $11,000.
(vi) They arranged with their bank to get a credit card in the name of the
partnership with a limit of $25,000. To do this, they both have to sign a
personal guarantee.
(vii) During their first month of business, they spent $15,000 on food ingredients,
van fuel, and sundry expenses, all of which were charged to the credit card.
All these items were used up in the normal course of business in the month.
(viii) Customers paid a total of $10,000 for food provided. A further $15,000 was
owed by customers who had received food but had not yet paid for it.
(ix) One corporate customer paid them a $2,000 deposit for catering a reception
in the next month.
(x) By the end of the first month they had not yet paid the credit card balance,
but they intended to pay it down to zero early next month.
(xi) At the end of the first month they estimated that there was about $1,500
owed by them for utilities and water.
(xii) At the end of the first month they each took $2,000 out of the bank account
as a personal withdrawal.
(xiii) Their best estimate of depreciation on the van and the catering equipment
was $500 for the month.

Chapter 2-2
 Accounting for Non-financial Managers, 4th Edition
© Captus Press Inc. All Rights Reserved.

4. Use the accounting equation to show how each of the above transactions would
be recorded in the partnership’s accounting records. Indicate the effect of each
one on assets, liabilities, and equity.
(i) Annie has $15,000 of savings. Jocasta gets a personal loan of $15,000 from
her grandmother. They put this $30,000 into a partnership bank account to
start the business off.
Assets = Liabilities & Equity
Before transaction $0 $0 $0
Transaction + $30,000 + $30,000
After transaction $30,000 $30,000

(ii) They leased kitchen premises in a lock-up store near where they live for
$2,000 per month. The two-year rental agreement calls for payment of first
and last month’s rent in advance.
Assets = Liabilities & Equity
Before transaction $30,000 $30,000
Transaction + $2,000; - $4,000 - $2,000
After transaction $28,000 $28,000

(iii) They bought a small delivery van for $5,000.

Assets = Liabilities & Equity
Before transaction $28,000 $28,000
Transaction + $5,000; -$5,000 $30,000
After transaction $28,000 $28,000

(iv) They spent $10,000 equipping the food preparation and cooking area and
buying serving dishes.
Assets = Liabilities & Equity
Before transaction $28,000 $28,000
Transaction +$10,000; - $10,000 $28,000
After transaction $28,000 $28,000

(v) At this point the bank balance is reduced to $11,000.

Cash introduced $30,000
Less payments:
2 month’s rent $ 4,000
Delivery van 5,000
Equipment 10,000 19,000
Cash balance $11,000
(vi) They arranged with their bank to get a credit card in the name of the
partnership with a limit of $25,000. To do this, they both have to sign a
personal guarantee.
No change (yet).

Chapter 2-3
 Accounting for Non-financial Managers, 4th Edition
© Captus Press Inc. All Rights Reserved.

(vii) During their first month of business, they spent $15,000 on food ingredients,
van fuel, and sundry expenses, all of which were charged to the credit card.
All these items were used up in the normal course of business in the month.
Assume that all these got used up in the business operations:
Assets = Liabilities & Equity
Before transaction $28,000 $280,000
Transaction + $15,000 - $15,000
After transaction $28,000 $15,000 $13,000

(viii) Customers paid a total of $10,000 for food provided. A further $15,000
was owed by customers who had received food but had not yet paid for it.
Assets + Liabilities & Equity
Before transaction $28,000 $15,000 $13,000
Transaction + $10,000 + $15,000 + $25,000
After transaction $53,000 $15,000 $38,000

(ix) One corporate customer paid them a $2,000 deposit for catering a reception
in the next month.
Assets = Liabilities & Equity
Before transaction $53,000 $15,000 $38,000
Transaction + $2,000 + $2,000
After transaction $55,000 $17,000 $38,000

(x) By the end of the first month they had not yet paid the credit card balance,
but they intended to pay it down to zero early next month.
No effect
(xi) At the end of the first month they estimated that there was about $1,500
owed by them for utilities and water.
Assets Liabilities Equity
Before transaction $55,000 $17,000 $38,000
Transaction + $1,500 - $1,500
After transaction $55,000 $18,500 $36,500

(xii) At the end of the first month they each took $2,000 out of the bank account
as a personal withdrawal.
Assets Liabilities Equity
Before transaction $55,000 $18,500 $36,500
Transaction - $4,000 - $4,000
After transaction $51,000 $18,500 $32,500

(xiii) Their best estimate of depreciation on the van and the catering equipment
was $500 for the month.
Assets Liabilities Equity
Before transaction $51,000 $18,500 $32,500
Transaction - $500 - $500
After transaction $50,500 $18,500 $32,000

Chapter 2-4
 Accounting for Non-financial Managers, 4th Edition
© Captus Press Inc. All Rights Reserved.

6. For Annie and Jocasta, they can estimate their business’ income for the
first year by multiplying the first month’s income by 12 and then use that to
calculate their return on assets.
Operating income for month 1 $ 6,000
× 12 $72,000
Total assets $50,500
Return on assets: Operating income/total assets
$72,000/$50,500 = 143%
(a) In what ways is multiplying the first month’s income by 12 a reasonable way
of estimating their annual income, and why might it be suspect?
It is not a reasonable calculation: it is the month of the first year of
business, so it is not likely to be typical.

Chapter 2-5
 Accounting for Non-financial Managers, 4th Edition
© Captus Press Inc. All Rights Reserved.

10. Plastic Extrusions Inc. had total assets of $1,000,000 at the end of December.
Liabilities were $250,000, and owners’ equity was $750,000. During the year,
sales totalled $5,000,000, operating income was $100,000, interest payments
and taxes were $25,000, and net income was $75,000.

Required
Calculate the following:
(a) The return on assets
ROA = OI/TA = $100,000/$1,000,000 = 10%
(b) The return on owners’ equity
ROE = NI/OE = $75,000/$750,000 = 10%

Chapter 2-6
 Accounting for Non-financial Managers, 4th Edition
© Captus Press Inc. All Rights Reserved.

11. Gerry’s Superette had sales of $5,000,000 in the most recent year. Operating
expenses were $3,500,000. Interest and taxes totaled $500,000. Total liabilities
were $200,000, and owners’ equity was $800,000.

Required
Calculate the following:
(a) The return on assets
ROA = OI/TA = ($5,000,000 - $3,500,000)/($200,000 + $800,000) = 15%
(b) The return on owners’ equity
ROE = NI/OE = ($5,000,000 - $3,500,000 - $500,000)/$800,000 = 12.5%

Chapter 2-7