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Premium of 5 per cent. 22,500.00 472,500.00

Bonds of Corporation No. 2 $ 500,000.00

Premium of 5 per cent. 25,000.00 525,000.00

Capital stock of Corporation No. 3 $ 1,000.00
Premium or bonus 99,000.00 100,000.00

Total investment $3,377,500.00

It will be noticed that premiums on stocks and bonds and the stock of
No. 3 amount in all to $527,500. This may be entered in the books of
the new company as good- will, or franchise.

19. This purchase forms a basis on which to incorporate
the new company, and may be handed over by the promoters
at the price paid, or at an increased valuation. The books of
the new company are as follows:

BOOKS OF CORPORATION NO. 4

Opening Data

The company is to incorporate for $1,000, and then increase its capital
to the amount deemed advisable. The entire amount paid for the stocks
and bonds of the three companies is $3,377,500. To pay for this, the com-
pany is to sell its increased capital stock, also the bond issue that is to be
floated and sold at 90. The bond issue must be for $150,000, more than
required for sale, thus providing the treasury bonds called for. It is
decided to increase the capital^ stock to $2,000,000 and provide a bond
issue for $2,000,000 also. The bonds are sold at 90 per cent, of face value.
Assume that all of the capital stock but $199,000 has been sold at -par
and fully paid for.



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[43



C. P. A. QUESTIONS AND ANSWERS



29



Opening Journal Entries
Subscribers $1,000.00

Capital stock $1,000.00

For incorporation of company and
subscription to capital stock.
Subscribers $1,800,000.00

Unsubscribed stock 199,000.00

Capital stock $1,999,000.00

Increase of capital stock from
$1,000 to $2,000,000
Capital authorized
Subscribed for and paid up
Unsubscribed



Treasury bonds
Bonds payable

Bonds authorized

Bond sales

Treasury bonds on
hand



$2,000,000.00

1,801,000.00

$ 199,000.00

$2,000,000.00



$2,000,000.00
1,850,000.00



$2,000,000.00



$ 150,000.00

Bonds were sold at a discount of 10 per cent, as per cash book.
Cash Account



Subscribers


$ 1,000.00


Incorporation ex




Subscribers


1,800,000.00


penses, fee one-thirc




Treasury bonds


1,850,000.00


on $2,000,000


$ 6,666.67


(Discount contra)




Charter fee


30.00






Counsel fees


5,000.00






Other expenses, say


2,000.00






Bonds discount, 10








per cent, of sale


185,000.00






Promoters of com-








pany for value of








plants, franchises,








and assets of Cor-








porations Nos. 1,








2, and 3


3,377,500.00






Total payments $3,576,196.67






(See accompanying








journal entries)








Balance


74,803.33




$3,651,000.00


$3,651,000.00


Balance


$ 74,803.33







Opening Journal Entries — (Continued)



Plant and franchise No. 1
Plant and franchise No. 2
Franchise No. 3
Bills receivable
Accounts receivable
Supplies

Promoters new company

Bond discount



$1,537,536.91

1,594,485.66

105,477.43

122,000.00

133,000.00

70,000.00



$3,377,500.00
185,000.00



For assets turned over by the promoters of the company, including
the amount added for premium, etc. Values per attached statement
headed. Details of Property Received.



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30 C. P. A. QUESTIONS AND ANSWERS § 43

INVENTORY VALUATIONS
Plant and franchise Corporation No. 1

Original valuation $1,250,000.00

Premium on stock purchase 180,000.00

Premium on bond purchase 22,500.00

Share of bond discount, pro-
rated to cost of entire plant,

etc. 85,036.91 $1,537,536.91

Plant and franchise Corporation No. 2

Original valuation $1,275,000.00

Premium on stock purchase 200,000.00

Premitun on bond purchase 25,000.00

Share of bond discount 94,485. 66 1,594,485.66

Franchise Corporation No. 3

Original cost $ 100,000.00

Share of bond discount 5,477.43 105,477.43

Bills receivable. Company No. 1 $ 42,000.00
Bills receivable. Company No. 2 80,000.00 122,000.00

Accounts receivable, Company

No. 1 $ 40,000.00

Accounts receivable, Company

No. 2 . 93,000.0 133,000.00

Supplies from Company No. 1 $ 18,000.00
Supplies from Company No. 2 52,000.00 70,0 00.00

Total valuation $3,562,500.00

The bond discount is prorated to the three companies in proportion
to cost.

Statement of Assets and Liabilities . "*
Assets
• Plant and franchise No. 1 $1,537,536.91

Plant and franchise No. 2 1,594,485.66

Franchise No. 3 105,477.43

SuppHes 70,000.00

Bills receivable 122,000.00

Accounts receivable 133,000.00

Treasury bonds 150,000.00

Incorporation expenses 13,696.67

Cash 74,803.33

$3,801,000.00

Liabilities
Capital stock authorized $2,000,000.00

Unsubscribed 199,000.00

Outstanding $1,801,000.00

Bond issue 2,000,000.00

$3,801,000.00

20. Question 19. — The following question has been
selected as an interesting study in analysis rather than as a prob-
lem in accountancy. Redraft the following statements if they
are incorrect; interest on capital is at 5 per cent, per annum.



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§ 43 C. P. A. QUESTIONS AND ANSWERS



31



PROFIT-AND-LOSS ACCOUNT
For 6 MoNtHs Ended December 31, 1914



Debits



Purchases

Stock, December

1914
Partners' drawings
Rent
Salaries



31.



Sales

Interest on capital

Stock, July 1, 1914

Commissions



General expenses
Interest on loan •
Balance, net profit



$27,000.00

5.000.00

2,500.00

500.00

1,500.00

4,750.00

900.00

125.00

8.000.00

$50,275.00



BALANCE SHEET
December 31, 1914



Credits



$40,025.00

500.00

8,250.00

1,500.00



$50,275.00



Debits




Credits


Creditors




$ 5.400.00


Debtors


$10,200.00


Bills receivable




3,200.00


Cash on hand


700.00


Partners' accounts.


July




Cash in bank


4,000.00


1, 1914




10,000.00


Loan from bank


5,000.00


Net profit




8,000.00


Stock, December 31,

1914
Bills payable


5,000.00
1,700.00




$26,600.00


$26,600.00



21.



Answer to Question 19.

REDRAFTED BALANCE SHEET
December 31. 1914



Assets



Liabilities



Cash on hand
Cash in bank
Bills receivable
Accounts receivable
Stock on hand



$ 700.00

4,000.00

3,200.00

10,200.00

5,000.00



Accounts payable
Loan from bank
Bills payable

Total liabilities
Capital accounts
Invest-
ment
Less draw-
ings



$ 5.400.00
5.000.00
1.7C0.00

$12,100.00



$10,000.00
2.500.00



$23,100.00



Add

Interest

Net gain
Present capital



$ 7,500.00



250.00
3.250.00



11.000.00
$23,100.00



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32



C. P. A. QUESTIONS AND ANSWERS

REDRAFTED PROFIT- AN D-LOSS ACCOUNT
December 31, 1914



§43



Debits


Credits


Inventory, July 1, 1914 $ 8,250.00


Sales


$40,025.00


Purchases


27,000.00






Wages


4,750.00
$40,000.00






Deduct








Inventory, December








31, 1914


5,000.00






Cost of sales


$35,000.00


«




Gross gain, carried down


5,025.00
$40,025.00








$40,025.00


Rent


$ 500.00


Gross gain


$ 5,025.00


Salaries


1,500.00


Commissions


1,500.00


General expenses


900.00






Interest on loan


125.00






Total charges


$ 3,025.00






Interest on capital


250.00






Net gain


3,250.00
$ 6.525.00








$ 6,525.00



22. This question is not difficult, but it contains some
points of interest and should be carefully studied as the items
are mixed up more than one would expect to find in statements.
The fact that both of them balance by an apparent net profit
of $8,000 may lead one to suppose that this had something to
do with the final result, but it has not. The business has been
running for 6 months. Interest on capital for 6 months amoimts
to $250 instead of $500, as shown in the statement. From the
figures a statement of assets and liabiUties can be easily com-
piled, the balance of which gives the present capital of the
firm, $11,000. It will be noted that the investments were
$10,000, while the withdrawals were $2,500, leaving a net
investment of $7,500. To this amount should be added inter-
est on original investment, $250, giving a total of $7,750. The
difference between this amoxmt and the capital $11,000, is the
net profit for the period, or $3,250. If interest on capital is
considered a profit, the net gain is $3,500. In solving the prob-
lem the first step is to determine the net capital, and then the
net gain, after which the matter of preparing the profit-and-loss
statement is very simple. Commissions amotmting to $1,500



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§ 43 C. P. A. QUESTIONS AND ANSWERS 33

are evidently earned, though there is nothing in the question to
signify this conclusion other than by the balance obtained.
It is necessary, however, to secure a net gain of $3,250, to get
which amount the items of the statement must be arranged
in such a way as to produce the required result. No accrued
interest or depreciation has been considered, but it would be
prudent to provide for such.

23. Question 20. — ^The following is the trial balance of
the Rollins Manufacturing Company at December 31, 1912:
Cash in bank and on hand $ 1,200.00



Accounts receivable


17,000.00




Accounts payable




$ 10,200.00


Plant and machinery


15,000.00




Capital stock




25,000.00


Inventory account, materials


5,000.00




Purchases, materials


50,000.00




Sales.




100,000.00


Wages, foreman and general


6,000.00




Rent, taxes, power, and light
Travelers' salaries and expenses


2,500.00




7,500.00




Management, office salaries and






expenses


5,000.00




Manufacturing wages


20,000.00




Duty and freight


6,000.00





$135,200.00 $135,200.00

Inventory of materials December 31, 1912, $11,500; depre-
ciation of plant and machinery, 10 per cent.

When a profit-and-loss account is submitted to it, the com-
pany claims that there must be some mistake because their
operations are so simple that they are able to estimate closely
what the result should be; and the profit shown is about one-
half their estimate. Their practice in pricing* goods is to add
10 per cent, for factory expense to the cost of labor and mate-
rial and then add 40 per cent, to cover selling, management,
and profit. The factory foreman keeps a record for his own
satisfaction of the quantities and value of all materials used
and his figures, $44,000, are correct. Prepare a profit-and-loss
account, and reconcile it with the estimated profits antici-
pated by the management.

24. Answer to Question 20. — The actual results of this
problem can be easily obtained as exhibited in the accompanying



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34 C. P. A. QUESTIONS AND ANSWERS § 43

profit-and-loss statement which shows a net profit of $8,000.
In order to reconcile the acttial restilts with those estimated by
the management, certain assimiptions have to be made as indi-
cated in the accompanying comments. It is not at all unusual
for assumptions of this kind to be made in a manufacturing
establishment, and the foreman or superintendent after years
of experience is enabled to estimate very closely the propor-
tions of materials, labor, and manufacturing expenses. Indeed,
after a few years of careful record keeping, the wide-awake
foreman should be able to make estimates that will not fluctuate
to any great extent from actual operating results. In the pres-
ent case, however, he erred by omitting freight and duty from
the cost of materials and by xmderestimating the factory expen-
ses. If the freight and duty are omitted from the cost of mate-
rial, his estimate of material used is about correct; the problem
states that the $44,000 of material used is correct, but it is
f otmd that this fluctuates from the actual figures taken on the
same basis by $500.

It is stated that 40 per cent, is added to the cost of produc-
tion to cover selling and general expenses and profits; but as
the proportions are not stated it is impossible to determine
how much of this is estimated for expenses and how much for
profit. In order to establish a basis on which to work, it will
be assumed that the expenses in each case amotmt to $12,500;
on this basis there is an estimated profit of $15,660 or $7,660
in excess of the actual net profit. To reconcile this amotint
with the actual results, it is necessary to deduct the gain of
$1,440 obtained from the estimated amoimt of sales from the
$9,100 of tmderestimate in prime cost and factory expenses.

25. An examination of the accompanying exhibits will make
the matter much clearer; these exhibits consist of material
accoimt, statement based on estimates, reconciliation of profits,
manufacturing and profit-and-loss statement, and reconcilia-
tion statement. In cases of this kind where the accotmtant
is called upon to make an examination, his written report fol-
lows as a natiu-al sequence; therefore, in order to make this
solution complete a written report should be included.



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§ 43 C. P. A. QUESTIONS AND ANSWERS 35

MATERIAL ACCOUNT

Inventory, January 1, 1912 $ 5,000.00

Purchases during year 50.000.00 $55,000.00
Deduct

Material used during year $44,000.00

Inventory, December 31, 1912 11,500.00 55,500.00

Increase in material $ 500.00

The foregoing presttmes that freight and duty have not been
considered in material costs. The correct condition of the
material accotmt should be as follows:

MATERIAL ACCOUNT

Inventory, January 1, 1912 $ 5,000.00

Purchases 50,000.00

Freight and duty inbound 6,000.00 $61,000.00
Deduct

Material used ^44,000.00

Material on hand 11.500.00 55,500. 00

Shortage of material $ 5,500.00

A comparison of these two material accoimts makes it evi- .
dent that the freight and duty have not been considered in the
foreman's estimate of $44,000 of material used.

STATEMENT
BASED ON ESTIMATES OF MANAGEMENT

Cost of material used $ 44,000.00

Manufacturing wages 20,000.00

Prime cost $ 64,000.00

Add 10 per cent, for factory expenses 6,400.00

Total manufacturing cost $ 70,400.00*
Add 40 per cent, for selling, management, and

profits 28,160.00

Estimated selling price $ 98,560.00

Actual amount of sales 100,000.00

Excess of sales over estimate - $ 1,440.00

26. It is seen that the actual sales exceed the estimate by
$1,440, and it seems as if their plan of estimating had been used
more as a means of establishing a selling price than an3rthing
else. The ratio of profits is not stated but is included in the
40 per cent, added to the manufactiuing costs; this amounts
to $28,160, including selling expenses, management expenses,
and profits. What portion of it is profit? The. correct state-
ment shows that selling and general expenses amoimt to $12,500;
deducting this from the '$28,160 gives $15,660, which might
be considered the estimated profit. As the company claims



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36



C. P. A. QUESTIONS AND ANSWERS



§43



RECONCILING PROFITS
Estimated Profits Harmonized WiTfi Actual Profits



Profits estimated by management
Actual profits are
Excess of estimate over actual
Analysis of charges
Items underestimated
Actual manufacturing expenses
Estimated manufacturing expenses
Amount under estimate
Add freight and duty omitted
Excess of actual manufacturing ex-
penses over the estimated
Deduct
Profits not estimated
Excess of sales over

amount estimated $1,440.00
Increase in material
account 500.00

Amount to be deducted from
estimated profits



$15,660.00

8,000.00

$ 7,660.00



$10,000.00
6,400.00

$ 3,600.00
6,000.00

$ 9,600.00



1,940.00



$ 7,660.00



MANUFACTURING AND PROFIT- AN D-LOSS STATEMENTS


Rollins Manufacturing Company, December 31, 1912


Costs


Sales


Materials on hand.


Sale of goods for


January 1, 1912 $ 5,000.00


year $100,000.00


Purchases for year 50,000.00




Freight and duty
inbound 6,000.00 $ 61,000.00






Less materials on




hand December




31, 1912 $11,500.00




Cost of materials used $ 49,500.00




Manufacturing wages 20,000.00




Prime cost $ 69,500.00




Wages, foreman.




etc. $6,000.00




Rent, taxes, power.




etc. 2,500.00




Depreciation, plant




and machinery 1,500.00 10,000.00




Cost of goods sold $ 79,500.00




Gross profit carried down 20,500.00




$100,000.00


$100,000.00


Travelers' salaries


Gross profit


and expenses $7,500.00


brought down $ 20,500.00


Office salaries and




expenses 5,000.00 $ 12,500.'00




Net profit 8,000.00




$ 20,500.00


$ -20,500.00



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38 C. P. A. QUESTIONS AND ANSWERS § 43

that the estimated profit is about twice the $8,000 shown by
the statement, take this $15,660 as the profit and use it as a
basis for reconciling the two statements.

The excess of estimated profits amotinting to $7,660 is
accotmted for by omission of freight and xmderestimating the
manufacturing expenses; on the other hand there is an imex-
pected profit on sales of $1,440 over the amoimt estimated and
also an increase in the value of material. Perhaps this item of
$500 came about by an improper valuation of inventories.

The sales are $1,440 over the amoimt estimated. The prime
cost is $5,500 and factory expenses, $3,600 xmder the actual.

27. Question 21. — Messrs. Smith & Jones, architects,
want statements showing the financial condition of their firm,
their relative positions as partners, their business profit, and
their income for the year. Their agreement provides that
Smith is to receive two-fifths and Jones three-fifths of the
profits; the agreement is silent on the subject of interest charges
on capital and drawings. On December 31, 1912, the trial
balance is as follows; the index letters refer to the notes made
on examining the books:

a Petty cash account $ 1,150.50

b Bank of Hamilton 675.80

c Office fixtures 540.00

d Jones' house account 8,240.40

e Stocks account 10,150.50

/ Expense account 4,792.80
Client's accounts:

g UngavaBank 150.00

h Imperial Deposit Company 250.00

i Swansea Church 95.00

k Civic abbatoir 5.00

$ 600.00

/ Masonic hall $ 500.00

m Office Building Company 1,000.00 #

n City fire hall 700.00

o Manor house 350.00

p X estate 9.550.00

Smith, drawings account 6,000.00

Jones, drawings account 4,800.00

q Smith, capital account 10,000.00

r Jones, capital account 8,000.00

s Miscellaneous fees account 950.00

/ Smith, loan account 5,800.00

$36,850.00 $36,850.00



12,100.00



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§ 43 C. P. A. QUESTIONS AND ANSWERS 39

(a) The petty cash book shows the balance in hand at
December 31, 1912, to have been $49.50; an analysis of the
payments shows $100 to have been advanced* to Smith and $5
paid for Jones; the balance can be charged to- general business
expenses.

(b) This is current accoimt after crediting the proceeds of
a client's note discotmted but not matiu-ed, $2,000.

(c) 7| per cent, is to be written off.

(d) The payments on accoimt of Mr. Jones' house have been
made through the firm's bank and have been kept separate from
his drawing accoimt for the purpose of showing him the cost
of the house.

(e) The balance at January 1, 1912, was $12,500, further
purchase of shares during the year $5,100, proceeds of sales
$6,500, and interest and dividends received $949.50. The
market value of the firm's holdings December 31, 1912, was
$10,050, and the books are to be adjusted to that value.

(f) Expenses account covers rent paid $1,100, $100 being
outstanding, salaries of staff $2,812, and general expenses
$880.80.

(g) This is a charge made in the previous year for plans;
the charge stated that it is recoverable.

(hr) A charge made in the previous year; irrecoverable.

(i) Allowance to be made.

(k) Result of an error in submitting accoimt; recoverable.

(/), (m), (n), (o)y (p) These are amounts received during
the year. The total charge against these clients to date, as
per charges memorandum book, not posted to clients' accounts,
is $14,600; namely, (/) $625, (m) $1,200, (n) $750, (o) $900,
and (p) $11,125.

(q) and (r) These were balances as per balance sheet,
December 31, 1911.

- (s) The amount shown is that of miscellaneous fees received
during the year; in addition there is $175 outstanding.

(/) An advance by Mr. Smith to the firm, made July 1,
1912, $7,000, less $1,200, repaid September 30, 1912, to bear
interest at 6 per cent, per annum, calculated quarterly; no
interest has yet been credited or paid.



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40 C. P. A. QUESTIONS AND ANSWERS § 43

28. Answer to Question 21. — It will be seen that this
question relates to a firm that sells its services to clients; the
account keeping must necessarily be different from that of
trading or manufacturing concerns. The accotintant is asked
to make a statement showing the firm's financial position as
of December 31, 1912; this of course has reference to the bal-
ance sheet. He is required also to make statements showing
the relative positions of the partners, the business profit, and
the income for the year. The business profit or the business
earnings has reference to the amoimt earned from professional
services; in other words, the aggregate sales of the men's skill
for the period tmder review. From this must be deducted the
direct charges and expenses necessary for conducting the busi-
ness such as rent, salaries, etc. The gross earnings then minus
these direct expenses must give the business profit, or net earn-
ings from business activities. Of coiu-se, apart from this they
may, and in this case do, have other sottrces of income as well
as other expenses, which must also be taken into consideration
in determining the firm's net income for the year. In the state-
ment of income and expenses shown herewith the division,
however; may be changed slightly.

29. The trial balance of this firm when the accountant
began the examination is shown in the question. A close
inspection of the various accoimts and items, however, discloses
that several adjustments were necessary in order to have each
accoimt exhibit its correct status. Therefore, the various index
letters were made by the accotmtant in making an explana-
tion of the various items requiring adjustments in their respec-
tive accoimts. This plan of keying notation and necessary
adjustments is followed by most professional accotmtants as
it enables them to make on separate sheets full explanations
of necessary changes. It enables them also to note any other
featttres of interest to them in making adjustments and after-
wards in making up exhibits and schedules.

The statement of earnings and expenses shown i^ of special
interest because it shows, in separate divisions, the professional
earnings and expenses incident thereto, as well as the other



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§ 43 C. P. A. QUESTIONS AND ANSWERS 41

income and outlays relating to the firm's business. It shows
that the aggregate income of the firm consists of $15,725 from
professional services and $949.50 from investments, making
an aggregate income of $16,674.50. The net business earn-
ings amotmted to $9,836.20, but this will be reduced slightly
if depreciation on fumitiu-e and interest on loans are entered
as a direct expense. It will be noticed that these two items
have been placed in the second section, but there is no great
objection to their being placed in the first. The interest on
money borrowed was not a necessary business expenditure
because that was caused by the heavy withdrawals of the part-
ners. It would seem only fair to charge interest on the with-
drawals, and especially on the heavy payments for the accoimt
of Jones, but as the agreement is sUent in this respect that does
not seem necessary.

The investment in stocks produced an income of $949.50,
but there is a loss by reason of shrinkage in value of $1,050,
so that* this particular investment has really netted a loss of
$100.50. The Imperial Deposit Company accoimt of $250
is an old account and should not affect the business earnings
of this year. The accountant is advised to make an allowance
from the Swansea Church account; he hacs, therefore, deducted
$15 for this purpose, though a larger amount might be



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