EDSPIRA 1

EDSPIRA PRACTICE EXERCISES

Overview of the Financial
Statements
By Michael McLaughlin

1. Your friend is creating a company and needs to raise money. She could raise money
with which type(s) of capital?

2. Assume you start a company by inventing a product called Lazy Drone that doesn’t do
anything except watch YouTube all day and eat pickles. Surprisingly, an investor gives
your Lazy Drone ten million dollars in exchange for a 40% ownership interest. The
money Lazy Drone received from the investment represents which type of capital?

3. Assume you start a company by inventing a service called Imaginary Friend that will like
all of your social media posts, text you funny stories, and poke you on Facebook.
Shockingly, a bank lends ten million dollars to Imaginary Friend on the condition that
the bank receives annual interest payments at a rate of 7%, with the ten-million-dollar
principal to be fully repaid five years from today. The ten million dollars Imaginary
Friend received represents which type of capital?

4. Tom’s Auto has $500,000 in total assets and $375,000 in total liabilities. How much is its
total stockholders’ equity?

5. Sketchy Investments has total stockholders’ equity of $25,000 and total assets of
$740,000. How much is its total liabilities?

6. What are the four major financial statements?

7. Cash, accounts receivable, and inventory are all types of _________.

8. How are the income statement and the balance sheet connected?

9. The amounts on the ____________ are measured as of a specific point in time, whereas
the amounts on the income statement refer to a specific period of time.
 EDSPIRA 2

10. Tito pays $2 million for a 20% ownership stake in SnapTweetTumbleBook. How might
Tito make money?

11. What are the three primary sections of the statement of cash flows?

12. If you were to examine the statement of cash flows for a successful company that has
been in business for many years (e.g., Walmart), what would you be likely to find
regarding its cash flow from operating activities?

13. On the balance sheet, what does the line item “total stockholders’ equity” tell you?

14. What is an asset?

15. When a company declares and issues a cash dividend, what is the effect on the
company’s (a) income statement and (b) balance sheet?

16. Your friend creates a new company called CloudPro in the technology industry. After its
first year of its operations, the company’s cash flow from operating activities is negative,
its cash flow from investing activities is negative, and its cash flow from financing
activities is positive. Which of the following statements is true?
a. This is normal for a startup
b. This is abnormal for a startup and may be indicative of accounting fraud
c. This is abnormal for a startup and may be indicative of an impending
bankruptcy

17. On the balance sheet, total assets are equal to __________.

18. What is a liability?

19. What is accounts receivable?

20. On the income statement, ___________ is equal to total revenues minus total expenses.

21. A Chinese Restaurant, Wok this Way, has total stockholders’ equity of $50,000 and total
assets of $125,000. How much are its total liabilities?

22. Which of the following statements is false?

a. The balance sheet is a snapshot of the company at a specific point in time,
whereas the income statement is over a period of time
b. A company can raise money with debt or equity
c. An investor can make money by selling their ownership interest in the future for
more than they paid, or by receiving dividends
d. The balance sheet shows the profit (or loss) the company made during the year
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23. Issuing stock is which type of business activity?

a. Operating
b. Investing
c. Financing

24. Selling inventory is which type of business activity?

a. Operating
b. Investing
c. Financing

25. Purchasing equipment on manufacture products is which type of business activity?

a. Operating
b. Investing
c. Financing

26. Borrowing money is which type of business activity?

a. Operating
b. Investing
c. Financing

27. TRUE or FALSE? Total assets must always be equal to total liabilities plus total
stockholders’ equity.

28. TRUE or FALSE? Accounts payable is a liability that represents amounts owed to
suppliers.

29. TRUE or FALSE? The settlement of a liability would never result in a company
recognizing revenue.

30. What is purpose of the notes to the financial statements?

31. When assets are used up or liabilities are incurred, the company records a(n) _________.

32. What is the main purpose of the statement of cash flows?

33. What does the statement of stockholders’ equity show?

34. AirBnDorm has $900,000 in total assets and $400,000 in total stockholders’ equity. How
much does it have in total liabilities?

35. Which of the financial statements is a snapshot of a particular point in time?

a. Income statement
b. Statement of cash flows
c. Balance sheet
d. Statement of stockholders’ equity
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36. After its first year of operations, Athena Airlines reports net income of $10 million. It also
declares and issues a cash dividend of $2 million to its shareholders. What is the ending
balance of Athena Airlines’ retained earnings account?

37. After its first year of operations, CloudBooks reports a net loss of $50 million. If you
looked at the balance sheet on the last day of the fiscal year, you would see
____________ ____________ of $50 million.

38. Somewhat Safe Climbing Gear has been in business for many years. On its balance
sheet as of 12/31/18, the company reported retained earnings of $10,000. During the
next year of operations, the company reported $25,000 of net income and declared and
issued $5,000 in cash dividends. What is the ending balance of retained earnings on
12/31/19?

39. Naked and Afraid Jungle Adventures has been in business for many years. On its
balance sheet as of 12/31/18, the company reported retained earnings of $40,000.
During the next year of operations, the company reported a $70,000 net loss and did not
declare or issue any dividends. If you looked at the stockholders’ equity section of the
company’s balance sheet as of 12/31/19 you would see _________ __________ of
__________.

40. What does retained earnings represent?

41. At the beginning of the year, Uber Unlicensed Dentists has an accumulated deficit of $40
million. Despite a number of lawsuits, the company posts a net income of $70 million
for the year and declares and issues a $10 million dividend. How does this affect the
accumulated deficit account?

42. According to Gen Z Magazine, there is an exciting new company called SnapBook that is
revolutionizing how people consume information. The founder of SnapBook noticed an
interesting trend: people are tired of reading books. To take advantage of this
opportunity, SnapBook created a reading app that makes a page disappear every ten
seconds. “If people can’t finish reading the page, they can buy our speed-reading
course through an in-app purchase,” beamed SnapBook’s founder, a 57-year old
veteran of the automotive industry who claims to have figured out Gen Z.

You have been hired as SnapBook’s accountant. Please use the information below to
prepare a balance sheet.
The following information pertains to SnapBook as of December 31, 2016:

Common Stock 90,000

Accounts Payable 60,000
Land 10,000
Accounts Receivable 200,000
Note Payable 100,000
 EDSPIRA 5

Property, Plant, and Equipment 40,000

Retained Earnings 1,000
Unearned Revenue 10,000
Trademark 3,000
Wages Payable 7,000
Cash 15,000

43. A startup food company is taking the health food industry by storm. Meat-free
Vegetables, based out of St. Louis, provides an assortment of products for the health-
conscious consumer. The company rapidly gained market share in a competitive space
after a number of celebrities were spotted eating meat-free broccoli at the Academy
Awards. “The consumption of meat has been linked to a number of health
complications, including heart disease,” said a spokesperson for Meat-free Vegetables.
“We’re simply giving consumers a healthy alternative.”

The company also has support from Wall Street insiders. “Meat-free Vegetables is going
to do to vegetables what bottled water did to water,” said Jim Cramer of CNBC’s Mad
Money. “I mean, who drinks regular water anymore?”

You have been hired as the accountant for Meat-free Vegetables. Please use the
information below to create a single-step income statement.

The following information pertains to Meat-free Vegetables for the year ended 12/31/18:

Interest Expense 5,000

Cost of Goods Sold 140,000
R&D Expense 25,000
Sales Revenue 300,000
Income Tax Expense 18,000
SG&A Expense 70,000
 EDSPIRA 6

Solutions

1. Your friend is creating a company and needs to raise money. She could raise money
with which type(s) of capital?

debt or equity

2. Assume you start a company by inventing a product called Lazy Drone that doesn’t do
anything except watch YouTube all day and eat pickles. Surprisingly, an investor gives
your Lazy Drone ten million dollars in exchange for a 40% ownership interest. The
money Lazy Drone received from the investment represents which type of capital?

equity

3. Assume you start a company by inventing a service called Imaginary Friend that will like
all of your social media posts, text you funny stories, and poke you on Facebook.
Shockingly, a bank lends ten million dollars to Imaginary Friend on the condition that
the bank receives annual interest payments at a rate of 7%, with the ten-million-dollar
principal to be fully repaid five years from today. The ten million dollars Imaginary
Friend received represents which type of capital?

debt

4. Tom’s Auto has $500,000 in total assets and $375,000 in total liabilities. How much is its
total stockholders’ equity?

$125,000

5. Sketchy Investments has total stockholders’ equity of $25,000 and total assets of
$740,000. How much is its total liabilities?
$715,000

6. What are the four major financial statements?

balance sheet
income statement
statement of cash flows
statement of stockholders’ equity

7. Cash, accounts receivable, and inventory are all types of _________.

assets

8. How are the income statement and the balance sheet connected?
Net income (or net loss) from the income statement affects retained
earnings on the balance sheet.
 EDSPIRA 7

9. The amounts on the ____________ are measured as of a specific point in time, whereas
the amounts on the income statement refer to a specific period of time.
balance sheet

10. Tito pays $2 million for a 20% ownership stake in SnapTweetTumbleBook. How might
Tito make money?
The shares of SnapTweetTumbleBook increase in value and Tito sells the
shares or SnapTweetTumbleBook pays dividends to Tito.

11. What are the three primary sections of the statement of cash flows?

cash flow provided (or used) by operating activities

cash flow provided (or used) by investing activities
cash flow provided (or used) by financing activities

12. If you were to examine the statement of cash flows for a successful company that has
been in business for many years (e.g., Walmart), what would you be likely to find
regarding its cash flow from operating activities?
The company would generate positive cash flow from its operating
activities.

13. On the balance sheet, what does the line item “total stockholders’ equity” tell you?
The residual that remains after subtracting total liabilities from total
assets.

14. What is an asset?

Something owned or controlled by the company that provides future
economic benefit.
15. When a company declares and issues a cash dividend, what is the effect on the
company’s (a) income statement and (b) balance sheet?
(a) no effect on the income statement
(b) total assets and total stockholders’ equity decrease on the balance
sheet

16. Your friend creates a new company called CloudPro in the technology industry. After its
first year of its operations, the company’s cash flow from operating activities is negative,
its cash flow from investing activities is negative, and its cash flow from financing
activities is positive. Which of the following statements is true?
a. This is normal for a startup
b. This is abnormal for a startup and may be indicative of accounting fraud
c. This is abnormal for a startup and may be indicative of an impending
bankruptcy

17. On the balance sheet, total assets are equal to __________.

total liabilities plus total stockholder’s equity
 EDSPIRA 8

18. What is a liability?

A probable future sacrifice of economic resources arising from a present
obligation.

19. What is accounts receivable?

Amounts owed by customers from sales the company made on credit.

20. On the income statement, ___________ is equal to total revenues minus total expenses.
net income

21. A Chinese Restaurant, Wok this Way, has total stockholders’ equity of $50,000 and total
assets of $125,000. How much are its total liabilities?
$75,000

22. Which of the following statements is false?

a. The balance sheet is a snapshot of the company at a specific point in time,
whereas the income statement is over a period of time
b. A company can raise money with debt or equity
c. An investor can make money by selling their ownership interest in the future
for more than they paid, or by receiving dividends
d. The balance sheet shows the profit (or loss) the company made during
the year

23. Issuing stock is which type of business activity?

a. Operating
b. Investing
c. Financing

24. Selling inventory is which type of business activity?

a. Operating
b. Investing
c. Financing

25. Purchasing equipment on manufacture products is which type of business activity?

a. Operating
b. Investing
c. Financing

26. Borrowing money is which type of business activity?

a. Operating
b. Investing
c. Financing
 EDSPIRA 9

27. TRUE or FALSE? Total assets must always be equal to total liabilities plus total
stockholders’ equity.
True

28. TRUE or FALSE? Accounts payable is a liability that represents amounts owed to
suppliers.
True

29. TRUE or FALSE? The settlement of a liability would never result in a company
recognizing revenue.
False

30. What is purpose of the notes to the financial statements?

Notes provide supplemental information about the financial condition and
performance of the company.

31. When assets are used up or liabilities are incurred, the company records a(n) _________.
expense

32. What is the main purpose of the statement of cash flows?

To show how and why the company’s cash position changed over a period.

33. What does the statement of stockholders’ equity show?

How the stockholders’ equity accounts changed over the period.

34. AirBnDorm has $900,000 in total assets and $400,000 in total stockholders’ equity. How
much does it have in total liabilities?
$500,000

35. Which of the financial statements is a snapshot of a particular point in time?

e. Income statement
f. Statement of cash flows
g. Balance sheet
h. Statement of stockholders’ equity

36. After its first year of operations, Athena Airlines reports net income of $10 million. It also
declares and issues a cash dividend of $2 million to its shareholders. What is the ending
balance of Athena Airlines’ retained earnings account?
$8 million

37. After its first year of operations, CloudBooks reports a net loss of $50 million. If you
looked at the balance sheet on the last day of the fiscal year, you would see
____________ ____________ of $50 million.
accumulated deficit
 EDSPIRA 10

38. Somewhat Safe Climbing Gear has been in business for many years. On its balance
sheet as of 12/31/18, the company reported retained earnings of $10,000. During the
next year of operations, the company reported $25,000 of net income and declared and
issued $5,000 in cash dividends. What is the ending balance of retained earnings on
12/31/19?
$30,000

39. Naked and Afraid Jungle Adventures has been in business for many years. On its
balance sheet as of 12/31/18, the company reported retained earnings of $40,000.
During the next year of operations, the company reported a $70,000 net loss and did not
declare or issue any dividends. If you looked at the stockholders’ equity section of the
company’s balance sheet as of 12/31/19 you would see _________ __________ of
__________.
accumulated deficit, $30,000

40. What does retained earnings represent?

The profits the company has accumulated since its formation, minus any
dividends distributed to the company’s shareholders.

41. At the beginning of the year, Uber Unlicensed Dentists has an accumulated deficit of $40
million. Despite a number of lawsuits, the company posts a net income of $70 million
for the year and declares and issues a $10 million dividend. How does this affect the
accumulated deficit account?
There is no longer an accumulated deficit account. You would instead see a
retained earnings account of $20 million in the stockholders’ equity section
of the balance sheet.

42. According to Gen Z Magazine, there is an exciting new company called SnapBook that is
revolutionizing how people consume information. The founder of SnapBook noticed an
interesting trend: people are tired of reading books. To take advantage of this
opportunity, SnapBook created a reading app that makes a page disappear every ten
seconds. “If people can’t finish reading the page, they can buy our speed-reading
course through an in-app purchase,” beamed SnapBook’s founder, a 57-year old
veteran of the automotive industry who claims to have figured out Gen Z.

You have been hired as SnapBook’s accountant. Please use the information below to
prepare a balance sheet.
The following information pertains to SnapBook as of December 31, 2016:
 EDSPIRA 11

Common Stock 90,000

Accounts Payable 60,000
Land 10,000
Accounts Receivable 200,000
Note Payable 100,000
Property, Plant, and Equipment 40,000
Retained Earnings 1,000
Unearned Revenue 10,000
Trademark 3,000
Wages Payable 7,000
Cash 15,000
 EDSPIRA 12

43. A startup food company is taking the health food industry by storm. Meat-free
Vegetables, based out of St. Louis, provides an assortment of products for the health-
conscious consumer. The company rapidly gained market share in a competitive space
after a number of celebrities were spotted eating meat-free broccoli at the Academy
Awards. “The consumption of meat has been linked to a number of health
complications, including heart disease,” said a spokesperson for Meat-free Vegetables.
“We’re simply giving consumers a healthy alternative.”

The company also has support from Wall Street insiders. “Meat-free Vegetables is going
to do to vegetables what bottled water did to water,” said Jim Cramer of CNBC’s Mad
Money. “I mean, who drinks regular water anymore?”

You have been hired as the accountant for Meat-free Vegetables. Please use the
information below to create a single-step income statement.

The following information pertains to Meat-free Vegetables for the year ended 12/31/18:

Interest Expense 5,000

Cost of Goods Sold 140,000
R&D Expense 25,000
Sales Revenue 300,000
Income Tax Expense 18,000
SG&A Expense 70,000