Part 3: Solution
Use this data in answering the following questions.
On December 27, 2000, CanGo wrote two checks. The first, for $72,000 to Save-It Insurance Company, was for insurance coverage commencing January 1, 2001. The second, to It's Ours, a property management company, was for $24,000. It was for rent, also commencing on January 1, 2001.
Between December 10th and 23rd, 2001, CanGo sold $3,000,000 worth of subscriptions for magazines to be delivered in the future. As an enticement for people to buy these magazine subscriptions, CanGo guaranteed to mail the first issue between December 26th and 31st, 2001, and was able to meet this commitment.
Determine the amounts of revenue or expense recognized for each of the following independent situations.
Let's see how well you answered the questions.
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1. |
Assume the $3,000,000 of subscriptions represented 100,000 one-year subscriptions to a magazine published monthly. How much revenue would CanGo recognize in 2001? |
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a. $250,000 |
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b. $125,000 |
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c. $500,000 |
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d. $3,000,000 |
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Your Answer:
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Correct Answer: a |
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There are two ways to get this answer. (1) Each subscription must have cost the customer $3,000,000/100,000 = $30. Each $30 subscription covers 12 issues, so each issue must have a price of $30/12 = $2.50. When 100,000 magazines (the first issue for each subscription) were mailed, CanGo earned 100,000 * $2.50 =$250,000. (2) A quicker solution recognizes that the $3,000,000 was for 12 issues for each of the subscriptions. When one issue was mailed to all subscribers, 1/12 of the $3,000,000 was earned. $3,000,000/12 = $250,000. |
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2. |
Assume instead that each of the 100,000 subscriptions was for two years of a monthly magazine. How much revenue would CanGo recognize in 2002? |
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a. $500,000 |
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b. $100,000 |
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c. $1,500,000 |
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d. $1,000,000 |
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Your Answer:
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Correct Answer: c |
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The $3,000,000 of subscription prices covers 24 issues. Since the first issue was mailed in December 2001, we can assume that 12 additional issues were mailed in 2002. Therefore, 1/2 of the $3,000,000, or $1,500,000 is earned in 2002. (If you chose $125,000, based on your answer to question 1, and two-year subscriptions instead of one-year subscriptions, your logic was partially correct. However, question 1 asked for revenue recognized in 2001, when only 1 issue was delivered. Question 2 asked about 2002, when 12 issues would be delivered. |
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3. |
Assume instead that the $3,000,000 represented only 50,000 one-year subscriptions to an upper-end magazine with only 6 issues per year. Assuming that CanGo met its commitment to mail the first issue in December 2001, and ships an issue every other month thereafter, how much revenue will be recognized in the second quarter of 2002 (April-June)? |
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a. $1,500,000 |
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b. $1,000,000 |
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c. $2,000,000 |
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d. $3,000,000 |
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Your Answer:
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Correct Answer: b |
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During 2002, CanGo will mail issues every other month, starting in February. Therefore, issues will be mailed in April and June. For each issue mailed, CanGo will recognize $3,000,000/6 = $500,000, or $1,000,000 total for the second quarter. |
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4. |
Using the same assumptions as in the last question, how much revenue will CanGo recognize for the fourth quarter, 2002? |
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a. $1,500,000 |
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b. $100,000 |
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c. $500,000 |
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d. $1,000,000 |
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Your Answer:
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Correct Answer: c |
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CanGo will mail an issue in October of 2002. That issue will be the sixth and last issue, so no issue will be mailed in December of 2002. |
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5. |
Assume the insurance check purchased 12 months of coverage. What would be the amount of insurance expense recognized when the check was written on December 27th? |
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a. $0 |
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b. $100,000 |
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c. $1,000,000 |
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d. $3,000,000 |
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Your Answer:
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Correct Answer: a |
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Coverage started the following year, on January 1st. Therefore, the entire amount would be recorded as prepaid insurance, an asset. (It is probable that CanGo did recognize insurance expense for December 2000. However, that insurance expense would have been unrelated to the payment made on December 27th. The December 2000, insurance expense would be recognized by an adjusting entry made December 31st, unrelated to the December 27th check.) |
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6. |
Assume the rent check covered 6 months. What rent expense would be shown for the first quarter of 2001? |
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a. $3,000 |
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b. $1,500 |
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c. $12,000 |
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d. $10,000 |
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Your Answer:
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Correct Answer: c |
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If the check covered 6 months, the rent per month must be $4,000. For a quarter (3 months), rent would be $4,000 * 3 = $12,000. |
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7. |
If the rent check instead covered 8 months, how much rent expense would be recognized for January 2001? |
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a. $3,000 |
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b. $1,500 |
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c. $12,000 |
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d. $10,000 |
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Your Answer:
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Correct Answer: a |
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$3,000 (= $24,000/8). |
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8. |
Assume the rent check covered a full year's rent, but was rent for a new warehouse that would be occupied for the first time on February 1, 2001. What would be the amount of prepaid rent as of March 31, 2001? |
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a. $10,000 |
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b. $12,000 |
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c. $18,000 |
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d. $20,000 |
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Your Answer:
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Correct Answer: d |
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If the $24,000 is rent for a year, rent is $2,000 per month. By March 31st, two months' rent would be used up, leaving 10 * $2,000 = $20,000 of the prepaid rent account remaining. |
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© 2002 by Prentice-Hall, Inc.
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