Writing a Memorandum
Question 1. Statement of Cash Flows
| Particulars | Amt. | Amt. |
| Operating Activities | ||
| Net income | 130,000 | |
| Add: Depreciation | 25,000 | |
| Add: Interest expenses | 75,000 | |
| Add: Accounts receivable | (17,000) | |
| Add: Accounts payable | 8,000 | |
| Add: Interest payable | 2,000 | |
| add: Inventory | 30,000 | |
| Less: Prepaid expenses | (2,000) | |
| Less: salaries Wages payable | (24,750) | (3750) |
| Net cash flow from operating activities (A) | 226,250 | |
| Investing Activities | ||
| Purchase of plant and equipment | (98,000) | |
| Net cash flow from investing activities (B) | (98,000) | |
| Financing activities | ||
| Interest expenses | (75,000) | |
| Payment of bonds payable. | (30,000) | |
| Dividends paid | (105,000) | |
| Issue of new shares | 90,000 | |
| Cash flow from financing activities (C) | (105,000) | |
| Total cash flows | 8,250 | |
| Add: Opening cash and cash equivalent | 20,000 | |
| Closing cash and cash equivalent | 28,250 |
Question 2
Memo on evaluation of company performance based on the cash flows
Date: -08/02/2018
To: The CFO CHAPMAN COMPANY
From: Mr. Z
Subject: Assessment and Evaluation of the Major Cash Inflows and Outflows
During the year 2017, Due to the severe economic downturn, credit sales to customers increased from the year prior by $17,000; this reveals that the operations of the company were not very profitable and the collections from the customers were lagging. This is indicated by the increase in receivables of the company.
This portrays that there is a possibility that the company has been struggling to make sales, and therefore, to attract more customers, more credits were offered to attract more customers to make purchases. The company also reduced the inventory level by $30,000 to generate more net income to meet the bad economic situation it experienced; therefore, the company gained an equivalent cash flow to the amount of inventory reduced. Also, the company postponed the payment of the accounts payable amounting to $8,000 to preserve the cash flow and save the economic hardship it is experiencing. The operating activities didn’t generate any cash. Therefore, the year 2017 was not good for the company. The major cash outflow from the company is the salaries and Wages payable, amounting to an outflow of $24,750; among the cash outflow activities is the payments of dividends, which amount to 105,000 annually.
From the analysis of both the balance sheet and the statement of cash flow, it is noted that much of the cash outflow is to investing activities, amounting to $98,000, and to financing activities, amounting to $105,000. This portrays that the company is increasing the amount of finance and investments pumped into the company to generate more cash inflow in future periods. Therefore, regarding its ability to meet its working capital requirements in the coming year and pay off the bonds in two years. This means that the company will be able to generate more cash flows in the future to gather for the lenders due to its solid investment and financing background.
Regards Mr. Z
QUESTION 3
(a) Deferred Tax
| Deferred Tax | |
| Debit | Credit |
| Deferred tax | |
| Income tax expense
43,000 |
Current tax |
(b) contents of audited financial statements.
According to Bessell, Max et al. (2003), audited financial resources must express an opinion on whether the financial statements are free from material misstatements; this will also include notes to financial statements, which are part of the crucial part of that financial statements. Audited financial statements must have the names of the engagement team and be signed by the chief auditor; auditors must express an honest opinion regarding the disclosures in the financial statements.
QUESTION 4
(a)
| inventory | |
| Debit | Credit |
| Bal b/d 250,000 | Overstatement of inventory $7,500 |
| Bal c/d 242,500 | |
|
Cost of goods sold |
|
| Debit | Credit |
| Overstatement of inventory $7,500 | Bal b/d 722,000 |
| Bal c/d 714,500 | |
|
Sales revenue |
|
| Debit | Credit |
| Overstatement of inventory $7,500 | Bal b/d 1,255,250 |
| Bal c/d 1,247,750 | |
(b)
| CHAPMAN COMPANY
COMPARATIVE BALANCE SHEET FOR THE YEAR ENDED MAY 31, 2017 |
||
| 2017 | 2016 | |
| Current Assets | ||
| Cash | 28,250 | 20,000 |
| Investments | ||
| Inventories | 242,500 | 250,000 |
| Accounts receivable | 75,000 | 58,000 |
| Pre-paid expenses | 9,000 | 7,000 |
| Other | ||
| Total | 354,750 | 335,000 |
| Fixed Assets | ||
| Property and equipment | 600,000 | 502,000 |
| Leasehold improvements | ||
| Equity and other investments | ||
| Less accumulated depreciation (Negative Value) | (150,000) | (125,000) |
| Total | 450,000 | 377,000 |
| Other Assets | ||
| Charity | ||
| Total | 0 | 0 |
| Total Assets | 804,750 | 712,000 |
| Current Liabilities | ||
| Accounts payable | 123,000 | 115,000 |
| Accrued wages | 47,250 | 72,000 |
| interest payable | 27,000 | 25,000 |
| Income taxes payable | ||
| Unearned revenue | ||
| Other | ||
| Total | 197,250 | 212,000 |
| Long-term Liabilities | ||
| bonds payable | 70,000 | 100,000 |
| Total | 70,000 | 100,000 |
| Owner Equity | ||
| Investment capital | 370,000 | 280,000 |
| Accumulated retained earnings | 145,000 | 120,000 |
| Total | 515,000 | 400,000 |
| Total Liabilities & Stockholder Equity | 782,250 | 712,000 |
CHAPMAN COMPANY
INCOME. STATEMENT
FOR THE YEAR ENDED MAY 31, 2017
Revenue
Gross Sales 1,247,750
Net Sales 1247750
Cost of Goods Sold
Beginning Inventory 714,500
Inventory Available 714500
Less: Ending Inventory
Cost of Goods Sold 714500
Gross Profit (Loss) 533250
Expenses
Depreciation 25000
other erxpenses 8150
Interest 75000
salaries and Wages 252100
Total Expenses 360250
Net Operating Income 173000
Less income tax (43,000)
Net income 130,000
QUESTION 5
Memo on evaluation effects of the error and the proper presentation in the financial statements.
Date: -08/02/2018
To: The CFO CHAPMAN COMPANY
From: Mr. Z
Subject: Evaluation Of The Effects Of The Error And The Proper Presentation In The Financial Statements
Overstatement error has a far-reaching impact on the presentation and authenticity of the company’s financial statements. When the ending inventory is overstated, the amount of inventory that is usually changed to the cost of goods sold during the financial year so that the amount of cost of goods sold for the current period declines. To explain further, the formula below is used;
For the Chapman company, the correction of the overstatement of the ending inventory reversed itself after the inventory figure had been dropped and, hence, moving the exaggeration once again into the cost of products sold and exaggerating the cost of goods later on, the change may emerge once more.
The overstatement in the ending inventory results in a statement of sot of goods sold at a very low level; therefore, the net income before taxes is exaggerated. This implies it is exaggerated likewise by a similar measure of stock exaggeration that emerges. To discover the effect of this exaggeration on net salary after duties, the material measure of pay charges is subtracted from the exaggerated sum.
The impact of deliberate overstatement of income by the management is to make a report on unusually high profits. This is trying to meet investor expectations if the company is not performing well as expected or when the management is trying to meet a variety of tools for fraudulent overstatement of inventory. This is, for example, diminishing any stock misfortune saves, estimation of stock part exaggeration, overcounting stock things, and distributing overhead, among others.
References
Bessell, Max Anandarajan, Asokan and Umar Ahson (2003). Information content, audit reports and ongoing concern. https://onlinelibrary.wiley.com/doi/abs/10.1111/j.1467-629x.2003.00091.x.
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Question 
Writing a Memorandum
You are the Corporate Controller for Chapman Company, a major retailer of bicycles and accessories. In 2013, the business suffered a dramatic decline in revenues as a result of the economic downturn and the lingering effects of the “credit crunch.” Due to the threats regarding a downgrade in rating, the business was forced to renegotiate their bond terms on two separate occasions: once in August 2013 and another in February 2014. Customer orders stabilized in Q414 which saw a small increase in revenue gains versus Q313. Because of this, and the fact that their largest customer placed a volume order in December, the CEO feels that the business has finally stabilized after a tumultuous and gut-wrenching year. Because of the amount of unique business decisions required to weather the storm, and the fact that the business had to renegotiate its bond terms twice during the year, the CEO has asked you to devote 100% of your time in June and July of 2014 making sure that the May 31, 2014 financial statements and accounting transactions are appropriately stated and backed by appropriate accounting. This comprehensive case problem will require you to utilize the skills learned and to apply professional judgment to various situations you will encounter throughout your professional career.
Requirements:
1. The Accounting Manager just recently completed closing May 31, 2014 on a draft basis. You have just received the balance sheet and income statement found in P23-7 (page 1472). Prepare a statement of cash flows using the indirect method and using the worksheet under the “cash flow statement” tab using the data provided in the problem, items 1 to 7. This will be BEFORE you find the errors documented in part 4 below.
2. The CFO has been getting a lot of questions from the company’s lenders in regards to its ability to meet its working capital requirements in the coming year and ability to pay off the bonds in two years. Based on what you know about the company from the balance sheet, prepare a memorandum to the CFO in regards to the major cash inflows and outflows. (NOTE: Please stretch your thinking beyond the obvious: instead of writing “A/R decreased by $x.xM representing a cash inflow,” say “Due to the severe economic downturn, credit sales to customers decreased from the year prior”).
Writing a Memorandum
3. With the following additional facts, and using the income statement and balance sheet, generate the deferred tax journal entries along with your calculation of the taxable income:
a. The fixed asset generated depreciation expense of $15,500 vs. the book depreciation expense of $25,000.
b. What should be disclosed in the audited financial statements?
4. During the financial statement closing process for May 31, 2014, you have noticed several errors that occurred during the prior year ending May 31, 2013 as a result of a change in leadership at the CFO position. The ending inventory balance was overstated by $7,500, reflecting work-in-process inventory that had labor and overhead charged to the manufactured process inappropriately due to employees charging small quantities to work orders that were not picked up in the annual physical inventory.
a. Prepare the journal entries to record this change.
b. Prepare the revised balance sheet, income statement, statement of retained earnings and statement of cash flows (indirect) for May 31, 2014.
5. The new CFO has asked you to prepare a memorandum describing the effects of the error and the proper presentation in the financial statements. This memorandum will be shown to the investors, so it is important to be articulate and clearly written. Please refer to the Writing Rubric.