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Chapter 10: Q1FC-1 (page 576)

Question: Wild Adventure conducts tours of wildlife reserves around the world. The company recently purchased a lodge in Adelaide, Australia, securing a 4% mortgage from First Bank. In addition to monthly payments, Wild Adventure must provide annual reports to the bank showing that the company has a current ratio of 1.2 or better. After reviewing the annual reports, the CEO, N. O. Scrooge, approached Carl Hauptfleisch, the CFO, and stated, “We’ve decided we are going to move all our long-term debt investments into our brokerage account so we can sell them soon. Carl, go ahead and make the adjusting entries as of the current year-end.” Carl made the adjustments even though he doesn’t think the company will actually go ahead with the planned sale of the long-term debt investments. The subsequent year, the economy turned, and the company’s travel revenues dropped more than 60%. Wild Adventure eventually defaulted on the First Bank loan.

Requirements

1. What effect did the adjustments have on the financial statements? What effect did the adjustments have on the current ratio?

Short Answer

Expert verified

Answer

Current assets will increase with an amount equal to a decrease in long-term assets, and the current ratio will also increase

Step by step solution

01

Definition of Current Ratio

A financial metric that reflects the business entity’s performance by assessing its ability to repay short-term loans is the current ratio. The assessment is made using the current assets and current liabilities.

02

Effect on Financial Statements and Current Ratio

Due to the transfer of long-term assets of the business entity to current assets, total assets will remain unaffected. Still, the sub-total of long-term assets will decline, and the sub-total of the current asset will increase.

Due to the increase in the current assets, the company's current ratio will increase.

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Most popular questions from this chapter

Match the key term to the scenario.

1. Available-for-sale debt investments.

a. Jane owns 53% of Richard’s Roses’s voting stock.

2. Controlling interest equity investments.

b. Joe owns debt security in Bones, Inc. and intends to hold it until maturity.

3. Trading debt investments.

c. Jeannie owns a debt security in Cricket, Inc. and plans on selling the debt after one year.

4. Held-to-maturity debt investments.

d. Jimenez owns 5% of Delgado, Inc.’s voting stock but does not have the ability to participate in the decisions of Delgado, Inc.

5. Significant influence on equity investments.

e. Jacob owns 24% of Pay, Inc.’s voting stock and has the ability to exert influence over Pay, Inc.

6. No significant influence on equity investments.

f. Jim owns a debt security in Tag, Inc.’s and plans on holding the debt for only a week.

Question: P10-21B Accounting for debt investments

Suppose Hale and Sons purchases $800,000 of 3.5% annual bonds of Tyson Way Corporation at face value on January 1, 2018. These bonds pay interest on June 30 and December 31 each year. They mature on December 31, 2022. Hale and Sons intends to hold the Tyson Way bond investment until maturity.

Requirements

1. Journalize Hale and Sons’s transactions related to the bonds for 2018.

Question: P10-22B Classifying and accounting for debt and equity investments

Captain Transfer Corporation generated excess cash and invested in securities as follows:

2018

Jul. 2 Purchased 4,200 shares of Naradon, Inc. common stock at \(13.00 per share. Captain Transfer plans to sell the stock within three months, when the company will need the cash for normal operations. Captain Transfer does not have significant influence over Naradon.

Aug. 21 Received a cash dividend of \)0.40 per share on the Nardon stock investment.

Sep. 16 Sold the Naradon stock for \(13.70 per share.

Oct. 1 Purchased a Purple bond for \)40,000 at face value. Captain Transfer classifies the investment as trading and short-term.

Dec. 31 Received a \(600 interest payment from Purple.

31 Adjusted the Purple bond to its market value of \)44,000.

Requirements

3. Prepare T-accounts for the investment assets, and show how to report the investments on Captain Transfer’s balance sheet at December 31, 2018.

Accounting for debt investments

On January 1, 2018, the Chaucer’s Restaurant decides to invest in Lake Turner bonds. The bonds mature on December 31, 2023, and pay interest on June 30 and December31 at 4% annually. The market rate of interest was 4% on January 1, 2018, so the $90,000 maturity value bonds sold for face value. Chaucer’s intends to hold the bonds until December 31, 2023.

Requirements

In what category would Chaucer’s report the investment on the December 31, 2018, balance sheet?

Why would a company invest in debt or equity securities?
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