Assignment# 01

Course : Financial Accounting (5418)

Semester: Spring, 2023

Name: Muhammad Rizwan

Roll No: BY479040

Reg No: 19PCR04174

Question # 01

a. Distinguish between debt and equity securities and between

short-term and long-term investments.

b. Describe how to report equity securities with controlling

influence.

Answer:

a. Distinguish between debt and equity securities and between

short-term and long-term investments.

Certainly, let's delve into the distinctions between debt and equity securities, as well

as between short-term and long-term investments, in more detail:

Debt Securities vs. Equity Securities:

Debt Securities:

1. Nature: Debt securities are essentially loans that investors provide to

companies, governments, or other entities. Investors purchase bonds or other

debt instruments issued by these entities, effectively lending them money.

 2. Ownership and Returns: When you invest in debt securities, you become a

creditor of the issuer. In return for your investment, the issuer agrees to pay

you periodic interest payments (coupon payments) during the life of the bond

and to repay the principal amount (face value) when the bond matures.

3. Risk and Reward: Debt securities are generally considered lower-risk

investments compared to equity securities. This is because the interest

payments are usually fixed, and bondholders have a higher claim on the

company's assets in case of bankruptcy or default. However, the potential for

high returns is limited compared to equity investments.

4. Priority of Payment: In the event of bankruptcy, debt holders are usually

higher in the priority line to receive repayment compared to equity

shareholders. This priority is based on the hierarchy of claims established by

bankruptcy laws.

Equity Securities:

1. Nature: Equity securities represent ownership shares or stocks in a company.

When you buy equity securities, you become a partial owner of the company

and hold a claim on its assets and earnings.

2. Ownership and Returns: As a shareholder, you have the potential to earn

returns through capital appreciation (increase in the stock's value) and

dividends. However, unlike debt securities, there is no fixed obligation for

 the company to make dividend payments, and your returns depend on the

company's performance.

3. Risk and Reward: Equity securities come with higher risk compared to debt

securities. The value of your investment can fluctuate significantly based on

the company's financial performance, market conditions, and broader

economic factors. While the potential for higher returns is greater, there's also

the possibility of losing your entire investment.

4. Voting Rights: Equity shareholders typically have voting rights in the

company's decisions, such as electing the board of directors and approving

major business decisions. This provides a level of influence and control over

the company's direction.

Short-Term Investments vs. Long-Term Investments:

Short-Term Investments:

1. Time Horizon: Short-term investments are assets that are expected to be held

for a relatively brief period, typically less than a year. They are used for

temporary storage of funds and to earn a modest return while maintaining

liquidity.

2. Purpose: These investments are often used to preserve capital, provide quick

access to funds for emergencies or upcoming expenses, and take advantage of

short-term opportunities in the financial markets.

 3. Examples: Common examples of short-term investments include money

market funds, Treasury bills (T-bills), certificates of deposit (CDs) with short

maturities, and short-term government or corporate bonds.

Long-Term Investments:

1. Time Horizon: Long-term investments are held with the expectation of

maintaining them for an extended period, typically more than a year. The

primary goal is to achieve substantial growth and returns over time.

2. Purpose: Long-term investments are often associated with achieving specific

financial goals, such as retirement planning, wealth accumulation, and funding

major life expenses like education or purchasing a home.

3. Examples: Examples of long-term investments include stocks, real estate

properties, long-term government or corporate bonds, retirement accounts like

401(k)s or IRAs, and investments in mutual funds or exchange-traded funds

(ETFs) focused on long-term growth.

In conclusion, debt securities involve lending money to an issuer and receiving fixed

interest payments, while equity securities involve owning a stake in a company with

potential for capital appreciation and dividends. Short-term investments are held for

liquidity and stability, while long-term investments are pursued for higher returns

over an extended time horizon, despite the associated higher risks.

 b. Describe how to report equity securities with controlling

influence.

Reporting equity securities with controlling influence involves the accounting

treatment and disclosure of investments where one company (the investor) holds

significant influence or control over another company (the investee). This influence

is typically achieved when the investor owns between 20% and 50% of the investee's

voting stock. The accounting standards for this scenario are primarily governed by

the International Financial Reporting Standards (IFRS) and the Generally Accepted

Accounting Principles (GAAP). Here's a detailed step-by-step guide on how to

report such equity securities:

1. Initial Recognition: When the investor acquires equity securities with

controlling influence, the investment is initially recognized at its cost, which

includes the purchase price and any directly attributable costs of acquiring the

investment.

2. Determining Control: Control is typically assessed when the investor

acquires between 20% and 50% of the voting stock of the investee. If the investor's
influence is significant enough to control the investee's financial and operating

policies, the investor should prepare consolidated financial statements that combine

the financial information of both companies.

3. Equity Method: When the investor has significant influence but not full

control (ownership between 20% and 50%), the equity method is applied for

reporting the investment. Under the equity method:

• The investor initially records the investment at cost.

• Subsequently, the investor's share of the investee's post-acquisition profits or

losses is added or subtracted from the investment value.

• The investor's share of dividends received from the investee is recognized as

income.

4. Reporting in the Financial Statements: The investor's equity securities with

controlling influence are reported in the financial statements as follows:

• Statement of Financial Position (Balance Sheet):

• The investment is reported as a separate line item in the non-current

assets section.

• If the investor holds other equity investments, they might be classified

separately from investments with controlling influence.

• Income Statement:
 • The investor's share of the investee's profits or losses is included in the

investor's income statement under the "Share of Profit of

Associates" or similar line item.

• Cash Flow Statement:

• The investor's share of dividends received from the investee is reported

as part of the operating, investing, or financing activities, depending on

the nature of the dividend.

5. Disclosures: Detailed disclosures are necessary to provide users of financial

statements with an understanding of the nature and extent of the investor's

involvement with the investee. These disclosures may include:

• Nature of the relationship between the investor and the investee.

• The investor's share of profits, losses, and dividends from the investee.

• The carrying amount of the investment.

• Any commitments or contingent liabilities related to the investment. It's

important to note that reporting equity securities with controlling influence

requires adherence to the relevant accounting standards and regulations in

your jurisdiction. It's recommended to consult with accounting professionals

or financial experts to ensure accurate and compliant reporting.

Question # 02 :

General Electronics uses a sales journal, a purchases journal, a

cash receipts journal, a cash disbursements journal, and a general

journal as illustrated in this chapter. General recently completed the

following transactions a through h. Identify the journal in which each

transaction should be recorded.

a. Paid cash to a creditor.

b. Sold merchandise on credit.

c. Purchased shop supplies on credit.

d. Paid an employee’s salary in cash.

e. Borrowed cash from the bank.

f. Sold merchandise for cash.

g. Purchased merchandise on credit.

h. Purchased inventory for cash.

Answer:

a. Paid cash to a creditor. - Cash Disbursements Journal

b. Sold merchandise on credit. - Sales Journal

c. Purchased shop supplies on credit. - Purchases Journal

d. Paid an employee’s salary in cash. - Cash Disbursements Journal

e. Borrowed cash from the bank. - Cash Receipts Journal

f. Sold merchandise for cash. - Cash Receipts Journal

g. Purchased merchandise on credit. - Purchases Journal

h. Purchased inventory for cash. - Cash Disbursements Journal

i.

Q. 3

What do you know about event and transactions? Explain. Also,

describe 5 events and 5 transactions which change the equity.

Answer:

Let's start by discussing events and transactions in accounting, and then I'll provide

examples of events and transactions that can impact equity.

Events and Transactions:

Events: Events in accounting refer to occurrences or happenings that affect a

company's financial position and can be measured in monetary terms. These

events could be external or internal and can have an impact on the financial

statements. Events can lead to transactions, but not all events result in

transactions.
Transactions: Transactions are specific financial activities that are recorded in a

company's accounting system. They involve the exchange of value, typically in

the form of money or goods, between two or more parties. Transactions are

recorded to ensure accurate financial reporting and to maintain the company's

financial records.

In simpler terms, events are occurrences that may or may not involve financial

activities, while transactions are specific financial actions resulting from these

events that have a direct impact on the company's financial position.

Examples of Events and Transactions Impacting Equity:

Events:

1. Economic Downturn: This external event might lead to a decrease in the

market value of a company's investments or assets. While this event doesn't

directly result in a transaction, it can lead to impairment charges that decrease

equity.

2. Employee Retirement: An employee's retirement is an internal event that

might lead to a future obligation for pension benefits. This event may not

result in an immediate transaction but could affect future transactions when

pension payments are made.

3. Natural Disaster: A natural disaster, like a fire damaging company property,

is an external event that can lead to an insurance claim. The settlement from
 the insurance company would result in a transaction, impacting both assets

and equity.

4. Issuance of Dividend Declaration: When a company's board of directors

declares a dividend, it's an internal event. It signals an upcoming transaction

when the dividends are paid out, reducing retained earnings and thus

impacting equity.

5. Change in Accounting Policy: An internal event, such as a change in

accounting policy due to regulatory changes, can lead to adjustments in

financial statements. This can impact equity by changing the way certain items

are reported.

Transactions:

1. Stock Issuance: When a company issues new shares of stock, it receives cash

or other assets in exchange. This transaction increases equity by increasing the

company's capital.

2. Net Income: Revenues generated from sales minus expenses result in net

income. This transaction increases equity by increasing retained earnings,

which is a component of equity.

3. Purchase of Treasury Stock: When a company repurchases its own shares,

it reduces cash but also decreases the amount of outstanding shares. This
 transaction decreases equity because it reduces the ownership interest of

shareholders.

4. Payment of Dividends: When dividends are paid to shareholders, it decreases

retained earnings and thus decreases equity.

5. Write-off of Bad Debt: When a company writes off a bad debt as

uncollectible, it reduces accounts receivable and net income. This transaction

indirectly affects equity by reducing both assets and retained earnings.

These examples showcase how various events and transactions can impact equity in

different ways, either by directly affecting the equity accounts or by influencing

factors that ultimately change the equity position of a company.

Q. 4

(a) Explain the steps in processing transactions and the role of source

documents. Also describe the ledger and chart of accounts.

 (b)

Answer:

(a) Explain the steps in processing transactions and the role of source

documents. Also describe the ledger and chart of accounts.

Processing transactions is a crucial aspect of accounting, as it involves recording and

organizing financial activities of a business entity. The process follows a series

of steps to ensure accurate and reliable financial information. Source documents

play a pivotal role in this process, providing evidence of each transaction. Let's

break down the steps and then delve into the concepts of the ledger and chart of

accounts:

Steps in Processing Transactions:

1. Identifying Transactions: The process begins with identifying any

 financial activity that impacts the business's financial position, such as sales,

purchases, payments, and receipts.

2. Source Documents: Source documents are physical or electronic records that

provide evidence of the transaction. Examples include invoices, receipts,

purchase orders, bank statements, and contracts.

3. Recording Transactions: The information from the source documents is then

recorded in the accounting system. This involves categorizing the transactions

by type (e.g., revenue, expense, asset, liability) and ensuring accuracy in terms

of amounts, dates, and parties involved.

4. Journal Entry: Transactions are initially recorded in a chronological order in

a journal. A journal entry includes the date of the transaction, accounts

affected, a brief description, and the amount. Each entry should follow the

principles of double-entry accounting, where debits and credits are balanced.

5. Posting to Ledger: The journal entries are then transferred to the appropriate

accounts in the ledger. A ledger is a collection of accounts that track the

changes in each specific type of asset, liability, equity, revenue, or expense.

6. Trial Balance: After posting to the ledger, a trial balance is prepared to ensure

that total debits equal total credits. This step helps identify any potential errors

in the recording process.

 7. Adjusting Entries: Some transactions require adjustments at the end of an

accounting period, such as accruals or deferrals. Adjusting entries ensure that

financial statements reflect the correct financial position.

8. Adjusted Trial Balance: After adjusting entries, another trial balance is

prepared to verify that all accounts have accurate balances.

9. Financial Statements: From the adjusted trial balance, financial statements

like the income statement, balance sheet, and cash flow statement are

generated. These statements provide insights into the company's financial

performance and position.

10.Closing Entries: At the end of an accounting period, temporary accounts

(such as revenue and expense accounts) are closed by transferring their

balances to the retained earnings account.

11.Post-Closing Trial Balance: A final trial balance is created to verify that the

closing entries were processed correctly. This trial balance includes only

permanent account balances.

Ledger and Chart of Accounts:

• Ledger: The ledger is a collection of accounts that records all the financial

transactions of a business. Each account represents a specific category of

financial activity, such as cash, accounts receivable, accounts payable, and

various expense and revenue categories.

 • Chart of Accounts: The chart of accounts is a structured list of all the accounts

used in the accounting system. Each account is assigned a unique code or

number for easy reference. The chart of accounts organizes accounts into

categories, such as assets, liabilities, equity, revenue, and expenses. It serves as

a framework for recording transactions and generating financial reports.

In summary, processing transactions involves several steps, from identifying

transactions to generating financial statements. Source documents provide

evidence for each transaction, ensuring accuracy and accountability. The ledger

records transactions in specific accounts, while the chart of accounts organizes

and categorizes these accounts for efficient tracking and reporting.

 (b)

Answer:

Let's analyze each transaction and provide a short description along with the

amounts:

(a) D. Joy invests $5,600 cash in the business:

• D. Joy, Capital account increases by $5,600.

• Cash account increases by $5,600.

(b) Joy Co. purchases office supplies for $600 on credit:

• Office Supplies account increases by $600.

• Accounts Payable account increases by $600.

(c) Joy Co. purchases equipment for $9,400 by paying $2,400 in cash and the

remainder on credit:

• Equipment account increases by $9,400.

• Cash account decreases by $2,400.

 • Accounts Payable account increases by $7,000 ($9,400 - $2,400).

(d) Joy Co. pays $2,400 cash to settle its accounts payable:

• Accounts Payable account decreases by $2,400.

• Cash account decreases by $2,400.

(e) Joy Co. provides delivery services and receives $2,500 in cash:

• Cash account increases by $2,500.

• Delivery Services Revenue account increases by $2,500.

(f) Joy Co. incurs gas and oil expenses of $700:

• Gas and Oil Expense account increases by $700.

• Cash account decreases by $700.

(g) Joy Co. pays $2,400 cash for prepaid insurance:

• Prepaid Insurance account increases by $2,400.

•Cash account decreases by $2,400.

Here's a summary of the transactions and their effects on the accounts:

• Automobiles: No transactions mentioned, so no change.

• Cash: Increases by $5,600 (a), decreases by $2,400 (c), decreases by $2,400

(d), increases by $2,500 (e), decreases by $700 (f), and decreases by $2,400

(g).

• Office Supplies: Increases by $600 (b).

• Prepaid Insurance: Increases by $2,400 (g).

 • Equipment: Increases by $9,400 (c).

• Accounts Payable: Increases by $600 (b), decreases by $2,400 (d).

• D. Joy, Capital: Increases by $5,600 (a).

• Delivery Services Revenue: Increases by $2,500 (e).

• Gas and Oil Expense: Increases by $700 (f).

Note: The specific impact on the "Automobiles" account is not provided in the given

transactions, so we can't determine any changes to it based on the information

given.

Q. 5

Kearl Associates is a professional corporation providing management

consulting services. The company initially debits assets in

recording prepaid expenses and credits liabilities in recording

unearned revenues. Give the entry that Kearl would use to record

each of the following transactions on the date it occurred. Prepare

the adjusting entries needed on December 31, 2012.

1. On July 1, 2012, the company paid a three-year premium of Rs.

5,400 on an insurance policy that is effective July 1, 2012, and

expires June 30, 2015.

2. On February 1, 2012, Kearl paid its property taxes for the year

February 1, 2012, to January 31, 2013. Th e tax bill was Rs.

2,400.

3. On May 1, 2012, the company paid Rs. 360 for a three-year

subscription to an advertising journal. Th e subscription starts

May 1, 2012, and expires April 30, 2015.

4. Kearl received Rs. 3,600 on September 15, 2012, in return for

which the company agreed to provide consulting services for 18

months beginning immediately.

5. Kearl rented part of its office space to Davis Realty. Davis paid

Rs. 900 on November 1, 2012, for the next six months’ rent.

6. Kearl loaned Rs. 80,000 to a client. On November 1, the client

paid Rs. 14,400, which represents two years’ interest in advance

(November 1, 2012, through October 31, 2014).

Answer:
For each transaction, I'll provide the entry that Kearl Associates would use to record

the transaction on the date it occurred, as well as the adjusting entries needed on

December 31, 2012:

Transaction 1:

On July 1, 2012, the company paid a three-year premium of Rs. 5,400 on an

insurance policy that is effective July 1, 2012, and expires June 30, 2015.

Recording Entry on July 1, 2012: Prepaid Insurance Rs. 5,400 Cash Rs. 5,400

Adjusting Entry on December 31, 2012: Insurance Expense Rs. 1,800 Prepaid

Insurance Rs. 1,800 (Rs. 5,400 / 3 years)

Transaction 2:

On February 1, 2012, Kearl paid its property taxes for the year February 1, 2012, to

January 31, 2013. The tax bill was Rs. 2,400.

Recording Entry on February 1, 2012: Property Tax Expense Rs. 2,400 Cash Rs.

2,400

Adjusting Entry on December 31, 2012: Property Tax Expense Rs. 1,800

Property Taxes Payable Rs. 1,800

Transaction 3:
On May 1, 2012, the company paid Rs. 360 for a three-year subscription to an

advertising journal. The subscription starts May 1, 2012, and expires April 30,

2015.
Recording Entry on May 1, 2012: Prepaid Advertising Rs. 360 Cash Rs. 360

Adjusting Entry on December 31, 2012: Advertising Expense Rs. 120 Prepaid

Advertising Rs. 120 (Rs. 360 / 3 years)

Transaction 4:

Kearl received Rs. 3,600 on September 15, 2012, in return for which the company

agreed to provide consulting services for 18 months beginning immediately.

Recording Entry on September 15, 2012: Unearned Consulting Revenue Rs. 3,600

Cash Rs. 3,600

Adjusting Entry on December 31, 2012: Unearned Consulting Revenue Rs.

2,700 (Rs. 3,600 * 3/18) Consulting Revenue Rs. 2,700

Transaction 5:

Kearl rented part of its office space to Davis Realty. Davis paid Rs. 900 on

November 1, 2012, for the next six months’ rent.

Recording Entry on November 1, 2012: Cash Rs. 900 Rent Revenue Rs. 900

Adjusting Entry on December 31, 2012: Rent Revenue Rs. 450 (Rs. 900 * 6/12)

Unearned Rent Revenue Rs. 450

Transaction 6:
Kearl loaned Rs. 80,000 to a client. On November 1, the client paid Rs. 14,400,

which represents two years’ interest in advance (November 1, 2012, through October

31, 2014).

Recording Entry on November 1, 2012: Cash Rs. 14,400 Interest Receivable Rs.

14,400

Adjusting Entry on December 31, 2012: Interest Revenue Rs. 4,800 (Rs. 14,400

* 2/24) Interest Receivable Rs. 4,800

These entries and adjusting entries reflect the proper recording of transactions and

ensure accurate financial reporting for Kearl Associates.