Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
January 24, 2011
TEACHING NOTE
CASE 1
Verona Springs Mineral Water
2 pages; introductory
Accounting cycle
Journal entries
Income statement
Balance sheet
Statement of cash flows
Synopsis
This brief case covers the accounting cycle for a start-up water bottling company. This can be
either the first case in an MBA/EMBA financial accounting course, or can follow Dublin Small
Animal Clinic. The two cases are similar but Dublin Small Animal Clinic is less complex. If I
use both cases, I typically omit the statement of cash flows for Dublin Small Animal Clinic and
include that statement for this case.
Students make simple journal entries and then prepare an income statement, balance sheet, and
statement of cash flows—possibly by using the spreadsheet shown in Exhibits 1-3. The case can
include a spreadsheet worksheet that summarizes journal entries into a general journal. The
balances in the general journal are immediately copied into the balance sheet and income
statement, and the ending and beginning balances from the balance sheet are used to immediately
prepare a statement of cash flows. As a result, students can make journal entries and
immediately see how financial statements change...
Objectives
This basic case is typically used as the second case in an MBA/Executive financial accounting
course. It covers the first two months of operations for Verona Springs Mineral Water. The
primary difference between this case and Dublin Small Animal Clinic, Inc. is that this case is
slightly more complex. It includes an inventory account, debt, and a well drilling cost that is
expensed instead of capitalized because of materiality. I sometimes follow this case with
Holton-Central Holdings, Inc., which includes the purchase of a business including goodwill, and
inventory that includes transfers between raw material, work-in-process, finished goods, and cost
of goods sold.
Verona Springs can be used to introduce the following topics (same as in Dublin Small Animal
Clinic):
Page 1 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
•
Accounting as the language of business
• Common business terms: capitalize, expense, revenues, assets, liabilities, and equity
• A way to record relevant business activity in a systematic, orderly manner
• A system probably in existence since at least 1300
• Balance sheet—financial position at a point in time
• Income statement—financial performance during a specific period
•
Basic concepts
• Cost principle
• Going concern principle
• Matching principle
• Accrual method versus cash basis accounting
• Materiality
• Reliability
• Relevance
• Fair value
• Cost, which can be either an expense or a capital expenditure
•
Basic sections of the income statement and balance sheet:
• Revenues
• Expenses
• Assets
• Liabilities
• Owners’ Equity
•
Double-entry bookkeeping
• Accounting cycle
• Journal entries
• General journal
• General ledger
• Trial balance
• Financial statements
• Accounting rules
• Tax rules
This case has two objectives that are reinforced by following Dublin Small Animal Clinic with
either or both Verona Springs Mineral Water and Holton-Central Holdings. One objective is to
introduce students to commonly used financial reporting terms, such as those listed in the above
bullets. The second objective is have students prepare an income statement, balance sheet, and
statement of cash flows for a simple company, and then interpret those three statements.
Suggested use
Course Level
First-year MBA/Executive MBA financial accounting
Executive education
Page 2 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
Function
Teaching case
Timing
I typically use this as the second class in an introductory MBA/EMBA financial accounting course
Supplemental material
Spreadsheets
Related material
Dublin Small Animal Clinic, Inc. (Chapter 1)
Holton-Central Holdings, Inc. (Chapter 1)
Suggested Questions
1. For the two-month period March 1, 2009, to April 30, 2009, prepare: (a) journal entries, (b) an
income statement, (c) a balance sheet, and (d) a statement of cash flows.
2. Evaluate the company's performance.
3. Is the large decline in cash a concern?
4. How would the three financial statements change if Verona Springs bought 5,100 boxes for
$5,100 ($1.00 per box) and if 2,000 boxes remained in inventory?
5. How would the three financial statements change if, in addition to paying a total of $5,100 for
boxes, Verona Springs also spent a total of $4,800 for bottles and lids (a total of $9,900 for boxes,
bottle, and lids, instead of $6,300), $2,500 instead of $1,500 for labor, $1,600 instead of $900 for
shipping, and then shipped a total of 5,000 cases at $5.00 per case (1,000 cases for cash; 4,000
cases on credit)? Also assume negligible quantities of boxes, bottles, lids, and supplies in
inventory.
6. Identify costs that may not have been included in the case.
Teaching Outline
1.
(5-10 minutes, introduction) I usually start the case by asking someone to describe the company
and to then make the first journal entry, which is the initial equity investment by Mr. Pickering
and several relatives. I also ask the student to explain the terms “asset” and “equity,” and let
them discuss anything else about the entry that interests them.
If I have enough board space and a screen, I will write the journal entries on the board and then
enter them on the spreadsheets shown in Exhibits 1 and 2 (discussed in the following section).
2. (30-45 minutes, complete remaining journal entries and evaluate financial statements) I then
have students complete the remaining journal entries. As we cover each journal entry, I ask
student to explain common terms such as asset, liability, equity, revenue, and expense. I also ask
students to explain where and why each journal entry appears on a financial statement (next
section), and ask about various accounting terms such as materiality and historical cost, when
they are relevant to a journal entry.
Page 3 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
3. (10-15 minutes) After discussing the basic accounting cycle, I usually spend the remainder of the
class asking students to discuss the firm’s financial performance, as reported in the income
statement, and its financial condition, as reported in the balance sheet (next section).
Analysis
Spreadsheet
I use a variant of the spreadsheets shown in Exhibits 1 and 2 for this case and for two more
advanced introductory accounting cycle cases, Verona Springs Mineral Water and HoltonCentral Holdings. The spreadsheets use positive numbers as debits and negative numbers as
credits, which is how accounting software records debits and credits.
Journal entries
Using positive numbers for debits and negative numbers for credits makes recording journal
entries both simple and nearly identical to recording debits and credits. For example, debits must
equal credits. By using positive and negative numbers for journal entries, the sum of the entries
must always equal zero. Similarly, the normal balance in asset and expense accounts is a debit
and the normal balance in liability, equity, and revenue accounts is a credit. With this method,
the normal balance in asset and expense accounts is a positive number and the normal balance in
liability, equity, and revenue accounts is a negative number.
In Exhibits 1 and 2, journal entries are entered on the right side of the spreadsheet. The columns
numbered 1 to 8 in Exhibit 1 (1 to 11 in Exhibit 2) represent 8 different journal entries. The first
column shows a journal entry to record the sale of stock: a $125,000 debit to cash and a
$125,000 credit to common stock. The first cell beneath the 1 at the top of that column, shows
“$
-“; it is simply the sum of all the journal entries in that column. That row shows “$ -“
for each of the 8 columns in Exhibit 1, or the 11 columns in Exhibit 2, so debits equal credits for
each journal entry.
General journal and financial statements
If all the journal entries are blank, then the numbers under the fourth and fifth columns,
“Account Balances, End date” and “Financial Statements, End Date”, are zero. As an entry is
made, the “Account Balance,” which represents a trial balance, is simply the sum of all journal
entries in that row. For the “Financial Statements” column, the number is the sum of all journal
entries for that row, except the sign is switched for each liability, equity, and revenue account.
Although that can be somewhat confusing for someone unfamiliar with double entry
bookkeeping, it is how computers do accounting and it is effectively how bookkeepers did
accounting by hand for hundreds of years.
Because students can see how a journal entry affects both the general ledger (column 4) and the
financial statements (column 5) accounts as a journal entry is being made, the process is usually
easier to understand than if we first make journal entries, then prepare a general journal, and
Page 4 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
finally prepare financial statements. Each time someone makes an entry, we discuss the effect on
the general ledger and on the financial statements.
Sometimes we discuss the statement of cash flows, although for a very introductory class, I
sometimes delete the statement of cash flow from this spreadsheet.
Some textbooks use spreadsheets where the normal balance in all accounts is a positive number.
With that method, there is no need to change signs when moving from the general journal to the
financial statements. However, students need to remember that: (1) some journal entries will be
for two positive numbers, such as when an asset is acquired in exchange for a liability or for
equity (obtain cash in exchange for common stock); (2) some journal entries will be for a
positive number and a negative number, such as when an asset is acquired for another asset (pay
cash to obtain inventory), and; (3) some journal entries will be for two negative numbers, such as
when a liability is reduced in exchange for an asset (pay cash to reduce accounts payable).
That seems far too confusing. I use the convention that debits are positive numbers and credits
are negative numbers, which is equivalent to debits always equaling credits.
Retained earnings
As journal entries begin to affect the income statement, we discuss how the income statement is
included in the balance sheet as retained earnings, so that debits equal credits for the general
journal and the balance sheet.
Suggested answers to questions
Question 1—journal entries
Exhibit 1 shows the first eight journal entries, which provides the answer to question 1 and the
information needed to discuss question 2 for the first part of the case. Exhibit 2 shows the
following three journal entries, which provides the answer to question 3 and the information
needed to discuss question 4 for the second part of the case.
1. Sale of stock.
Cash
$500,000
Common stock
$500,000
Discuss and define terms such as asset and equity. Discuss the trial balance and the balance
sheet.
2. Bank loan.
Cash
$300,000
Notes payable
$300,000
Discuss and define liabilities. Possibly discuss alternatives to “notes payable,” such as loans
payable and long-term debt. Discuss the differences between current and long-term liabilities.
3. Purchase of land.
Page 5 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
Land
$525,000
Cash
$525,000
Discuss capital expenditures and land. Discuss whether land should be amortized or depreciated.
4. Drilling of a well.
Drilling expense
Cash
$1,000
$1,000
Discuss expense versus capitalize. In this instance, the drilling cost has been expensed because
of the materiality concept. Discuss the income statement and retained earnings. Show that the
income statement accounts have been summarized, or collapsed into net income, and that net
income is then added to the beginning retained earnings balance.
5. Payment for construction of a building and purchase of purifying and bottling equipment.
Building and equipment
Cash
$240,000
$240,000
Introduce the concept of depreciation expense. Discuss the matching principle. Discuss the
financial statements, including the statement of cash flows.
6. Purchase of supplies and miscellaneous inventory on credit.
Supplies and miscellaneous inventory
Accounts payable
$6,300
$6,300
Discuss inventory. Discuss accounts payable as the normal way companies buy from each other.
Mention that “payable in 30 days” is normal in the U.S. Possibly mention that “payable in 90 or
120 days” is more common in Europe. When InBev acquired Anheuser-Busch, within two
months A-B InBev announced that it would pay its creditors in 120 days instead of 30 days.
7. Purchase of supplies and miscellaneous inventory for cash.
Supplies and miscellaneous inventory
Cash
$500
$500
8. Sale of 3,000 cases of bottled water, 2,000 as credit sales and 1,000 as cash sales.
Cash
Accounts receivable
Revenues
$ 5,000
$10,000
$15,000
9. Paid employees.
Payroll expense
Cash
$1,500
$1,500
I sometimes mention that payroll costs incurred to produce a product are added to the cost of the
product, along with the cost of manufacturing overhead. If I follow this case with HoltonCentral Holdings, I discuss those topics in the Holton case.
10. Pay for shipping the bottled water to supermarket chains.
Page 6 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
Shipping expense
Cash
$900
$900
In the U.S. in is most common for the shipper to pay freight costs and then bill the customer for
the cost of that freight. Under detailed U.S. GAAP, the shipper (in this case, Verona Springs),
records payment of the shipping costs as shipping expense and shows that amount as cost of
goods sold. When the shipper receives payment from its customer, the shipper records the
payment as shipping revenue. Although the case does not mention whether customers must pay
shipping costs, if they paid $900, Verona Springs would record $900 of shipping revenue and
$900 as shipping cost of goods sold, even though those numbers total to zero.
11. To reduce the “Supplies and miscellaneous inventory” account to its month-end balance, which is
zero in this case.
Supplies expense
Supplies and miscellaneous inventory
$6,800
$6,800
Discuss the concept of ending inventory. Possibly mention perpetual versus periodic inventory.
12. Record depreciation expense for one month for the $240,000 of buildings and equipment, which
have a 10-year or 120-month life.
Depreciation expense
Accumulated depreciation
$2,000
$2,000
13. Record interest expense and the liability for accrued interest costs.
Interest expense
Interest payable
$3,000
$3,000
The firm borrowed $300,000 at 6%, payable annually on the previous year’s outstanding
balance. This is for a two-month period, so for simplicity, assume interest expense is 1% of
$300,000, or $3,000. This distorts the income statement because the firm has only been in
operation for one month. If we adjust the reported net income consider the $1,000 drilling
expense and the additional $1,500 of interest expense, the firm would have earned $2,300 instead
of reporting a $200 loss.
Question 2
Although the firm reported a $200 loss, this is its first month of operation. In addition, if we
eliminate the $1,000 drilling expense and the additional $1,500 of interest expense, the firm
would have earned $2,300 instead.
This is a startup, so it is very difficult to say much about its operating performance. However,
the firm almost certainly has excess capacity. If it can increase revenues (see question 5), it may
become reasonably profitable because depreciation expense and interest expense will remain
constant as revenues increase.
Page 7 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-andAnalysis-1st-Edition--by-Wahlen
Question 3
No. Startups need considerable cash for items such as the purchase of land, buildings, and
equipment for Verona Springs, or for product development costs or research and development for
many other firms.
Question 4
See Exhibit 2
Question 5
See Exhibit 3
Question 6
•
•
•
•
•
•
•
•
•
Legal fees to incorporate the firm
State, city, and county licensing and other regulatory fees
Insurance
Accounting fees
Payroll taxes
Travel and entertainment
Advertising and marketing costs
Water testing supplies
Administrative wages
Page 8 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-and-Analysis-1st-Edition--by-Wahlen
Exhibit 1
Account Verona Springs Mineral Water
Number
Account Balances
Balance Sheet
Begin date
End date
Assets
0100 Cash
$
36,100
0200 Accounts receivable
$
10,000
0300 Supplies & Misc Inventory
$
1010 Buildings & Equipment
$
240,000
1050 Accumulated depreciation
$
(2,000)
1500 Land
$
525,000
Liabilities
2000 Accounts payable
$
(6,300)
2100 Interest payable
$
(3,000)
2200 Other liabilities
$
3000 Notes payable
$
(300,000)
Equity
4000 Common stock, par value
$
(500,000)
4010 Additional paid-in capital
$
4500 Retained earnings
$
200
Balance sheet totals
$
-
Income Statement
Revenues
5000 Revenues
Expenses
5050 Shipping expenses
6000 Cost of goods sold
7050 Administrative expense
7060 Sales and marketing expense
7070 Drilling expense
7100 Payroll expense
7300 Supplies expense
7400 Depreciation expense
8500 Tax expense
9000 Interest expense
Net Income
9050 Dividends paid
Addition to retained earnings
Journal Entry Totals
Statement of Cash Flows; indirect method
Cash from Operations
Net Income
+ Depreciation/amortization
Change in Accounts receivable
Change in Inventories
Change in Accounts payable
Change in Interest payable
Changes in other liabilities
Cash from Operations
Cash from Investing
Buildings & Equipment
Land
Cash from Investing
Cash from Financing
Debt (notes and long-term debt)
Sale of Stock
Cash from Financing
Change in Cash
Beg date to
End date
$
$
$
$
$
$
$
$
$
$
$
$
$
$
Financial
Statements
End date
$
$
$
$
$
$
36,100
10,000
240,000
(2,000)
525,000
$
$
$
$
6,300
3,000
300,000
$
$
$
$
500,000
(200)
-
2
-
$
$500,000
-
Journal Entries (Debits are "+", Credits are "-" )
3
4
5
$
- $
- $
- $
$300,000
($525,000)
($1,000)
6
7
-
$
($240,000)
8
-
$
($500)
$6,300
9
-
$
$5,000
$10,000
10
-
$
($1,500)
11
-
12
$
13
-
$
-
($900)
$500
($6,800)
$240,000
($2,000)
$525,000
($6,300)
($3,000)
($300,000)
($500,000)
Beg date to
End date
(15,000) $
900
1,000
1,500
6,800
2,000
3,000
200
200
1
$
$
$
$
$
$
$
$
$
$
$
$
$
$
15,000
($15,000)
(900)
(1,000)
(1,500)
(6,800)
(2,000)
(3,000)
(200)
(200)
$900
$1,000
$1,500
$6,800
$2,000
$3,000
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
Beg date to
End date
$
(200)
$
2,000
$
(10,000)
$
$
6,300
$
3,000
$
$
1,100
$
$
$
(240,000)
(525,000)
(765,000)
$
$
$
$
300,000
500,000
800,000
36,100
Page 9 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-and-Analysis-1st-Edition--by-Wahlen
Exhibit 2
Account Verona Springs Mineral Water
Account Balances
Number
End date
Begin date
Balance Sheet
Assets
36,100
$
0100 Cash
10,000
$
0200 Accounts receivable
2,000
$
0300 Supplies & Misc Inventory
240,000
$
1010 Buildings & Equipment
(2,000)
$
1050 Accumulated depreciation
525,000
$
1500 Land
Liabilities
(8,300)
$
2000 Accounts payable
(3,000)
$
2100 Interest payable
$
2200 Other liabilities
(300,000)
$
3000 Notes payable
Equity
(500,000)
$
4000 Common stock, par value
$
4010 Additional paid-in capital
200
$
4500 Retained earnings
$
Balance sheet totals
Income Statement
Revenues
5000 Revenues
Expenses
5050 Shipping expenses
6000 Cost of goods sold
7050 Administrative expense
7060 Sales and marketing expense
7070 Drilling expense
7100 Payroll expense
7300 Supplies expense
7400 Depreciation expense
8500 Tax expense
9000 Interest expense
Net Income
9050 Dividends paid
Addition to retained earnings
Journal Entry Totals
Statement of Cash Flows; indirect method
Cash from Operations
Net Income
+ Depreciation/amortization
Change in Accounts receivable
Change in Inventories
Change in Accounts payable
Change in Interest payable
Changes in other liabilities
Cash from Operations
Cash from Investing
Buildings & Equipment
Land
Cash from Investing
Cash from Financing
Debt (notes and long-term debt)
Sale of Stock
Cash from Financing
Change in Cash
Beg date to
End date
$
$
$
$
$
$
$
$
$
$
$
$
$
$
Financial
Statements
End date
$
$
$
$
$
$
36,100
10,000
2,000
240,000
(2,000)
525,000
$
$
$
$
8,300
3,000
300,000
$
$
$
$
500,000
(200)
-
-
$
-
Journal Entries (Debits are "+", Credits are "-" )
5
4
3
- $
- $
- $
$
$
-
$
-
$
$
-
$
-
($900)
($6,800)
$500
$8,300
$
-
13
12
11
10
-
($1,500)
$5,000
$10,000
($500)
($240,000)
($1,000)
($525,000)
$300,000
$500,000
-
9
8
7
6
$240,000
($2,000)
$525,000
($8,300)
($3,000)
($300,000)
($500,000)
Beg date to
End date
(15,000) $
900
1,000
1,500
6,800
2,000
3,000
200
200
2
1
$
$
$
$
$
$
$
$
$
$
$
$
$
$
($15,000)
15,000
$900
(900)
(1,000)
(1,500)
(6,800)
(2,000)
(3,000)
(200)
(200)
$1,000
$1,500
$6,800
$2,000
$3,000
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
Beg date to
End date
(200)
$
2,000
$
(10,000)
$
(2,000)
$
8,300
$
3,000
$
$
1,100
$
$
$
$
(240,000)
(525,000)
(765,000)
$
$
$
$
300,000
500,000
800,000
36,100
Page 10 of 12
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-and-Analysis-1st-Edition--by-Wahlen
Exhibit 3
Account Verona Springs Mineral Water
Number
Account Balances
Balance Sheet
Begin date
End date
Assets
0100 Cash
$
34,400
0200 Accounts receivable
$
20,000
0300 Supplies & Misc Inventory
$
1,600
1010 Buildings & Equipment
$
240,000
1050 Accumulated depreciation
$
(2,000)
1500 Land
$
525,000
Liabilities
2000 Accounts payable
$
(9,900)
2100 Interest payable
$
(3,000)
2200 Other liabilities
$
3000 Notes payable
$
(300,000)
Equity
4000 Common stock, par value
$
(500,000)
4010 Additional paid-in capital
$
4500 Retained earnings
$
(6,100)
Balance sheet totals
$
-
Income Statement
Revenues
5000 Revenues
Expenses
5050 Shipping expenses
6000 Cost of goods sold
7050 Administrative expense
7060 Sales and marketing expense
7070 Drilling expense
7100 Payroll expense
7300 Supplies expense
7400 Depreciation expense
8500 Tax expense
9000 Interest expense
Net Income
9050 Dividends paid
Addition to retained earnings
Journal Entry Totals
Statement of Cash Flows; indirect method
Cash from Operations
Net Income
+ Depreciation/amortization
Change in Accounts receivable
Change in Inventories
Change in Accounts payable
Change in Interest payable
Changes in other liabilities
Cash from Operations
Cash from Investing
Buildings & Equipment
Land
Cash from Investing
Cash from Financing
Debt (notes and long-term debt)
Sale of Stock
Cash from Financing
Change in Cash
Beg date to
End date
$
$
$
$
$
$
$
$
$
$
$
$
$
$
Financial
Statements
End date
$
$
$
$
$
$
34,400
20,000
1,600
240,000
(2,000)
525,000
$
$
$
$
9,900
3,000
300,000
$
$
$
$
500,000
6,100
-
2
-
$
$500,000
-
Journal Entries (Debits are "+", Credits are "-" )
3
4
5
$
- $
- $
- $
$300,000
($525,000)
($1,000)
6
7
-
$
($240,000)
8
-
$
($500)
$9,900
9
-
$
$5,000
$20,000
10
-
$
($2,500)
11
-
12
$
13
-
$
-
($1,600)
$500
($8,800)
$240,000
($2,000)
$525,000
($9,900)
($3,000)
($300,000)
($500,000)
Beg date to
End date
(25,000) $
1,600
1,000
2,500
8,800
2,000
3,000
(6,100)
(6,100)
1
$
$
$
$
$
$
$
$
$
$
$
$
$
$
25,000
($25,000)
(1,600)
(1,000)
(2,500)
(8,800)
(2,000)
(3,000)
6,100
6,100
$1,600
$1,000
$2,500
$8,800
$2,000
$3,000
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
-
$
Beg date to
End date
$
6,100
$
2,000
$
(20,000)
$
(1,600)
$
9,900
$
3,000
$
$
(600)
$
$
$
(240,000)
(525,000)
(765,000)
$
$
$
$
300,000
500,000
800,000
34,400
Page 11 of 12
-
Full file at http://emailtestbank.com/ Solution-Manual-for-Intermediate-Accounting-Reporting-and-Analysis-1st-Edition--by-Wahlen
Page 12 of 12