Question
The following information as at the year-end date is extracted from the Freddy Corporation's financial statements: December 31 2019 ($) 2018 ($) Cash 95,000 27,000
The following information as at the year-end date is extracted from the Freddy Corporation's financial statements: | ||
|
| December 31 |
| 2019 ($) | 2018 ($) |
Cash | 95,000 | 27,000 |
Accounts receivable | 92,000 | 80,000 |
Allowance for doubtful accounts | (4,500) | (3,100) |
Inventory | 155,000 | 175,000 |
Prepaid expenses | 7,500 | 6,800 |
Land | 90,000 | 60,000 |
Buildings | 287,000 | 244,000 |
Buildings - Accumulated depreciation | (32,000) | (13,000) |
Machinery | 50,000 | 60,000 |
Machinery- Accumulated depreciation | (30,000) | (25,000) |
Leased equipment* | 28,594 | - |
Leased equipment - Accumulated depreciation | (9,531) | - |
| 729,063 | 611,700 |
Accounts payable | 90,000 | 84,000 |
Accrued liabilities | 54,000 | 63,000 |
Lease payable | 18,594 | - |
Interest payable | 930 | - |
Bonds payable | 125,000 | 60,000 |
Share capital-ordinary | 100,000 | 92,000 |
Retained earnings | 340,539 | 312,700 |
| 729,063 | 611,700 |
For the | year 2019 |
|
Net income | $47,839 |
|
Depreciation expense - Buildings | 19,000 |
|
Depreciation expense - Machinery | 5,000 |
|
Depreciation expense - Leased equipment | 9,531 |
|
Cash dividends declared and paid | 20,000 |
|
Gain or loss on sale of Machinery | None |
|
Additional information:
* On 1 January 2019, Freddy leased an equipment, with an economic useful life of ten years, from Flower Company for three years. The present value of the minimum lease payment and the fair value of the leased equipment were $28,594 and $95,313 respectively. Annual lease payment of $10,000 has to be made at the beginning of each period. The lease agreement offers Freddy an option of purchasing the leased equipment at $1 at the end of the lease period.
Required:
- With reference to each of the five classification criteria, discuss why the leased equipment should be classified as the finance lease, instead of the operating lease, in the books of Freddy. [within 200 words]
- Prepare a Statement of Cash Flows for the year ended 31 December 2019 for Freddy Corporation using the indirect method (assuming dividends and interest paid are classified as financing activities).
- Goods, which costs $1,500, were not included in the physical count of inventory by Freddy. They were shipped from a supplier FOB shipping point on 29 December 2019, and did not arrive until 3 January 2020. Assuming that the purchase was properly recorded while the omission of the inventory could only be discovered after the 2019 financial statements were issued,
- analyze the effect (over/understate) of this omission on 2019 costs of goods sold, net income and retained earnings, and
- prepare the adjusting entries accordingly.
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