Question

Revise your worksheet to the accounting equation and update for the new transaction values below, and then answer the questions that follow.

The following transactions took place at a newly formed company:

1	Started the company by issuing common stock	$	52,800
2	Paid six months of rent in advance		8,800
3	Provided services to customers on account		17,000
4	Purchased supplies on account		3,800
5	Paid employees’ salaries for the current month		7,800
6	Paid dividends to stockholders		5,800

Required:
1. Based on your new values, enter the total of Assets, Liabilities, and Stockholders’ Equity:

2. What statement below is true regarding the effect of incorrectly including the issuance of Common Stock in the Retained Earnings column instead of the Asset column?

a) There will no effect as Assets still equal Liabilities plus Stockholder's Equity.

b) Assets and Retained Earnings will be overstated, the accounting equation will be in balance.

c) Assets will be understated and Stockholder's Equity will be overstated.

d) Both Assets and Stockholder's Equity will be understated.

3-a. What would be the amount of total Assets and total Retained Earnings if the payment of dividends weren't made?

Answer 1

1) Calculation for assets, liabilities, and stockholders equity by preparing accounting equation

Transaction	Assets =				Liabilities +	Stock holders Equity
	Cash	Prepaid rent	Account receivable	Supplies on hand	Account payable	Contributed capital	Retained earnings
Issuing common stock	$ 52,800					$ 52,800
Paid advance rent	- $ 8,800	$ 8,800
Provide services to customers on account			$ 17,000				$ 17,000
Purchase supplies on account				$ 3,800	$3,800
Current month salary paid	- $ 7,800						- $ 7,800
Paid dividends to stock holders	- $ 5,800						- $ 5,800
Total =	$ 30,400	$ 8,800	$ 17,000	$ 3,800	$ 3,800	$ 52,800	$ 3,400
	Total assets = $ 60,000				Total liabilities = $ 3,800	Stockholders equity = $ 56,200

2) C)  Assets will be understated and stockholders equity will be overstated.

Explanation : At the time of issuance of common stock if instead of assets column it has been posted to retained earnings, then nothing will be shown in assets for that transaction, which understated the value of assets . Apart from that for such effect , retained earnings also gets increase which ultimately wrongly increases the value of stock holders equity. [ because retained earnings is a component of shareholders equity ].

3) If the payment of dividends weren't made then total assets amounted to [ $ 60,000 + $ 5,800 ] = $ 65,800 and total retained earnings amounted to [ $ 3,400 + $ 5,800 ] = $ 9,200.