Question

Exercise 3-2 Comparing a merchandising company with a service company The following information is available for two different types of businesses for the 2018 accounting year. Hopkins CPAs is a service business that provides accounting services to small businesses. Sports Clothing is a merchandising business that sells sports clothing to college students. Data for Hopkins CPAS 1. Borrowed $90,000 from the bank to start the business. 2. Provided $60,000 of services to clients and collected $50,000 cash. 3. Paid salary expense of $32,000. Data for Sports Clothing 1. Borrowed $90,000 from the bank to start the business. 2. Purchased $60,000 inventory for cash. 3. Inventory costing $26,000 was sold for $50,000 cash. 4. Paid $8,000 cash for operating expenses. Required a. Prepare an income statement, balance sheet, and statement of cash flows for each of the companies. b. Which of the two businesses would have product costs? Why? c. Why does Hopkins CPAs not compute gross margin on its income statement? d. Compare the assets of both companies. What assets do they have in common? What assets are different? Why? EXERCISE 3-2 Solution

Answer 1

a. Preparation of Income Statement, Balance Sheet & Cash Flow Statement of Both Companies. Hopkins CPAS Sports Clothing Hopkins CPAS Income Statements For the Year Ended December 31, 2018 Sports Clothing Income Statements For the Year Ended December 31, 2018 Revenue Service Revenue Revenue Sales Revenue 60,000.00 50,000.00 Expenses Salaries Expense 32,000.00 Cost of Goods Sold Opening Inventory Purchase Closing Inventory 60,000.00 34,000.00 Net Income 28,000.00 26,000.00 Gross Margin 24,000.00 Hopkins CPAS Balance Sheet As of December 31, 2018 Expenses Salaries Expense 8,000.00 Net Income 16,000.00 Assets Cash Accounts Receivables Total Asset 108,000.00 10,000.00 118,000.00 Sports Clothing Balance Sheet As of December 31, 2018 Liabilities Notes Payable Total Liabilities 90,000.00 90,000.00 Assets Cash Inventory Total Asset Stock Holders' Equity Retained Earnings Total Stock Holders' Equity 72,000.00 34,000.00 106,000.00 28,000.00 28,000.00 Total Lia. & Stock Holders' Equity 118,000.00 Liabilities Notes Payable Total Liabilities 90,000.00 90,000.00 Hopkins CPAS Statement of Cash Flow For the Year Ended December 31, 2018 Stock Holders' Equity Retained Earnings Total Stock Holders' Equity 16,000.00 16,000.00 Total Lia. & Stock Holders' Equity 106,000.00 Cash Flow From Operating Activities: Cash Inflow from Clients Cash Outflow For Salaries Net Cash Flow from Operating Actv. 50,000.00 (32,000.00) 18,000.00 Sports Clothing Statement of Cash Flow For the Year Ended December 31, 2018 Cash Flow From Investing Activities: Cash Flow From Financing Activities: Cash Inflow From Loan Net Cash flow From Financing Activities 90,000.00 90,000.00 Cash Flow From Operating Activities: Cash Inflow from Clients Cash Outflow For Salaries Cash Outflow For Purchase of Goods Net Cash Flow from Operating Actv. 50,000.00 (8,000.00) (60,000.00) (18,000.00) 108,000.00 Net Increase in Cash Plus: Beginning Cash Balance Ending Cash Balance 108,000.00 Cash Flow From Investing Activities: Cash Flow From Financing Activities: Cash Inflow From Loan Net Cash flow From Financing Activities 90,000.00 90,000.00 72,000.00 Net Increase in Cash Plus: Beginning Cash Balance Ending Cash Balance 72,000.00 b. Sports Clothing will have Product cost. Sport Clothing is engaged in trading Business. It purchases goods from the market and sells to its customer. Thus, Sports Clothing will have product cost. Hopkins CPAs will not have Product cost as it is engaged in Service Sector. C. Hopkins CPAs is engaged in service Sector. In service Sector, they are not purchasing and selling any product. Sports Clothing are purchasing and selling Products, so first they have to check how much profit they have earned from only from Products which is called Gross Profit and then they will deduct other Expenses from Gross Profit to derive at Net Profit. Hopkins CPAs are directly providing Services. There are no transaction of Purchase and Sales. So it will not have any Gross Margin in its statement of Income. d. Both Companies have Cash Account in common as Assets. Hopkins CPAs has provided some services to client on Credit. So. It is having account Receivables Account(Other Than Cash Account) on Assets side. Sports Clothing had purchased goods worth $60000 in Cash. Out of this goods costing $26000 was sold to customer. So, goods costing $34000 is still lying with it. So, Sports Clothing is having Inventory Account (Other Than Cash Account) on Asset side. Comparing Different Accounts on Asset side, Hopkins CPAs is having Account Receivables & Sports Clothing is having Inventory.