Decision Making

1. Decision Making

Mario has been on an extreme fishing holiday in South Africa and has come back to Australia keen to start up a fishing charter company on the Yorke Peninsula.  He is looking to make as much profit as possible, while working for himself and doing something he really loves.   Mario doesn’t think that it will provide a stable income throughout the year so in addition to the fishing charter business he is also considering running an online business selling fishing rods..

After spending a great deal of his savings on his fantastic extreme fishing holiday in South Africa he only has $70,000 left and $50,000 of this will be used to set up his fishing charter business.  The remaining amount he will use to set up his online business selling fishing rods with any money left over to be deposited in a bank account yielding 6% per annum.  On chatting with a friend of his who also runs an online business he has determined that he is going to have to spend $4,500 to set up his website and invest a further $5,000 in fishing rod inventory. 

Mario will attend caravan and camping events to promote both of his businesses.

After considerable research Mario has determined that he wants to sell two types of fishing rods. He wants to stock one fishing rod suitable for big game fishing in deep waters from a boat and one light weight fishing rod suitable for fishing from a beach.   

Mario will sell each fishing rod as a complete package, with each package consisting of three parts – a fishing rod, a reel and fishing line.

Mario has undertaken some market research and has decided on the Big Game Shimaro fishing rod for big game fishing but has not yet decided on which of two possible light weight beach fishing rods he is going to sell.  He has made the following estimates regarding the costs associated with each fishing rod:

Big Game Fishing Rods:

	Big Game Shimaro
Components
	Cost per Fishing Rod ($)
Fishing Rods	54
Reel	95
Fishing Line	15

Light Weight Beach Fishing Rods:

	Light Game Rovex	Light Game Okuma
Components
	Cost per Fishing Rod ($)	Cost per Fishing Rod ($)
Fishing Rods	32	20
Reel	30	28
Fishing Line	7	7

Mario has investigated how much these fishing rods are being sold for online by other retailers as well as how much they are being sold for in a shop front retail outlet.  He also chats regularly online with various fishing enthusiast groups and has gathered a great deal of information about what prices people are willing to pay for various fishing rods.   Mario has determine that he could sell the Big Game Shimaro for $328, the Light Game Rovex for $189 and the Light Game Okuma for $250.

Mario has estimated that the Big Game Shimaro has a 45% chance of selling 450 fishing rods per month and a 55% chance of selling 300 fishing rods per month. In addition he has estimated that if he purchases the Light Game Rovex fishing rod he has a 68% chance of selling 500 fishing rods and a 32% chance of selling 250 fishing rods per month.  Alternatively if he purchases the Light Game Okuma fishing rod he has a 70% chance of selling 466 fishing rods and a 30% chance of selling 280 fishing rods per month.

Journal Entries

After discussing his plan to set up an online fishing rod business with the fishing rod manufacturer, the manufacturer offered the following bonus of free Big Game Shimaro fishing rods if the total quantity of fishing rods (Big Game Shimaro and Light weight beach fishing rods) ordered exceeds a certain quantity in a month (as detailed in the table below).  The estimated quantities calculated using the probabilities above will be used to determine the number of free bonus fishing rods.  These fishing rods can be sold for the full retail price of $328.

Quantity of Order Number of free Bonus fishing rods

775	1
780	2
785	3
790	4
795	5
800	6
805	7

Required:

Using the decision making model studied in topic 1 of this unit, explain which overall combination of fishing rods Mario should purchase. Ignore taxation in your advice.  Please use the headings below to structure your answer. Show all calculations.

2. Journal entries, posting to ledger and trial balance 

The following transactions were recorded in the journal of the Crazy Cuts hairdressing salon owned by George during the first month of operations ending 30^st June 2014 (ignore GST).

June 1                   George commenced business by opening up a bank account for the business using $32,000 of his own money.

June 3                   The business purchased $7,500 worth of shop fittings paying $2,000 with a short-term loan and the balance from the business cash account.

June 6                   Performed $860 worth of haircuts for cash and $120 worth of haircuts on credit.

June 9                   George took his wife to dinner and paid $90 from his personal bank account.

June 11                 Received $120 from customer for the haircut on credit on the 6^th June.

June 30                 Electricity expense of $150 was paid by writing a cheque from the business bank account.

Required: (Proformas attached)

A)    Prepare a journal entry to record each transaction. Ensure all entries are complete and correctly formatted including a narration (explanation) for each journal entry.       

The general journal of Clean as a Whistle, Window Cleaner, contained the entries below for the month of March 2014.

Date	Accounts	Debit	Credit
2014		$	$
March 1	Cash at Bank	5 200
	Andy Whistle, Capital		5 200
	(Cash invested by owner)
9	Fuel Expense	85
	Cash at Bank		85
	(fuel for business van)
16	Cash at Bank	1 000
	Window Cleaning Revenue		1 000
	(paid cash for cleaning clients windows)
22	Supplies	200
	Accounts Payable		200
	(purchased cleaning clothes and cleaning fluid on credit)
31	Accounts Receivable	180
	Window Cleaning Revenue		180
	(client windows washed on credit)

B)    Post the journal entries provided above to the ledger T accounts provided in the assignment template. Accounts with more than one entry must be footed.

C)Prepare a trial balance as at 31 March 2014.

D) For the journal dated 9th of March 2014, use the relevant element definitions introduced in topic 2 to explain why each of the accounts have been debited and credited.

General Ledger

Cash at Bank

Date	Item	$	Date	Item	$

Accounts Receivable

Date	Item	$	Date	Item	$

Supplies

Date	Item	$	Date	Item	$

Accounts Payable

Date	Item	$	Date	Item	$

Andy Whistle Capital

Date	Item	$	Date	Item	$

Window Cleaning Revenue

Date	Item	$	Date	Item	$

Fuel Expense

Date	Item	$	Date	Item	$

_________________________

Trial balance

———————————-

Account Title	Debit	Credit

A)    Income Statement for the period.

B)    Statement of Changes in Equity for the period.

C)    Balance Sheet in the narrative format.

3. Preparing financial statements 

Sophie Fairchild decided to open Sophie’s Superb Curtain Making Shop on 1 March 2014.  She contributed for this purpose office equipment $10 000 and a commercial van $22 000, and deposited $10 000 cash in a business bank account.   On the 31^st March Sophie was able to determine the following account balances and has listed them below in no particular order.  

Account	Balance at 31st March
Accounts Payable	$ 500
Rent expense	$ 500
Cash at Bank	$ 9 260
Electricity expense	$ 90
Office Equipment	$ 10 000
S Fairchild, Capital	$ 42 000
Office Supplies	$ 620
Loan Payable	$ 2 880
Accounts Receivable	$ 1 820
Fuel expense	$ 100
Commercial Vehicles	$ 22 000
Office supplies expense	$ 400
Sewing Machine	$ 3 680
Wages expense	$ 1 400
Drawings	$ 200
Postage expense	$ 20
Curtain Making revenue	$ 4 710

Posting to ledger

Required:

Prepare the following financial statements. Please ensure that all statements are correctly formatted.

Step 1 of the Decision Making Process

According to Collis, Holt & Hussey (2012), the first step of a decision making process is Problem recognition. The need for a decision occurs when the decision maker realizes the problem faced. In this question Mario is facing problem determining the purchase decision of fishing rods. Since he has so many combinations of fishing rods with varying costs and varying profits hence he is confused as to which one should be purchase.

Step 2 and 3 of the Decision Making Process

The second and third stage of decision making process includes Information search and evaluation of alternatives (Power, 2010).  Gathering of the relevant information helps in evaluation of the various alternatives and make a final decision. Mario in this case undertook suitable research and about the various types of fishing rods and the costs related to those rods. This has offered him with four choices namely Big game Shimaro rod, Light Game Rovex rod and Light Game Okuma rod.

Big Game Shimaro calculation

Suppose 450 fishing rods are sold per month

Cost price of 450 rods (54+95+15)	164 * 450 = 73800
Sale price at 328	328 * 450 = 147600
Total profit	73800
Suppose 300 fishing rods are sold per month
Cost price of 300 rods	164 *300 = 49200
Sale price at 328	300 * 328 = 98400
Profit	49200

Suppose 500 rods are sold
Cost price of 500 rods (32+30+7)	69 * 500 =  34500
Sales price of 500 rods	189 * 500=  94500
Profit	60000
Suppose 250 rods are sold
Cost price of  250 rods (32+30+7)	69* 250 = 17250
Sales price of 250 rods	189 * 250 = 47250
Profit	300000

Suppose 466 rods are sold
Cost price of 466 rods (20+28+7)	55 * 466 = 25630
Sales price of 466 rods	250 * 466 = 116500
Profit	90870
Suppose 280 rods are sold
Cost price of 280 rods (20+28+7)	55* 280 = 15400
Sales price of 280 rods	280 * 250 = 70000
Profit	54600

Calculation of profitability using probability percentage

Average month selling of Big game Simaro : 0.45 * 450 + 0.55 * 300 =  367.5

Average month selling of Little game rovex: .68 *  500 + .32 * 250 =  420

Average month selling of light game okuma : .70 * 466 + .30* 388 =  442.6

Average month profit of Big game Simaro : 367.5 * 328 = 120540

Average month profit of little game rovex: 420 * 189 = 79380

Average month profit of light game Okuma: 442.6 * 250 = 110650

From this calculation it can be stated that the combination of Big game Simaro with the Light game okuma will yield more profit than the other combination so Mario should opt for this profitable combination.

Light Game Rovex

Since the total probability of items sold is around (500+ 250) = 750 rods hence the following chart shows the allocation of bonus rods

Quantity of order	Number of free bonus fishing rods
775	1
780	2
785	3
790	4
795	5
800	6
805	7

Light Game Okuma

Since the total probability of items sold is around (466+280) = 746 rods hence the following chart shows the allocation of bonus rods

Quantity of order	Number of free bonus fishing rods
770	1
775	2
780	3
785	4
790	5
795	6
800	7

Savings	70000
Fishing charter business set cost	50000
Money left	20000
Online business setting expenses (4500 + 5000) =	9500
Remaining amount	10500

Mario will deposit $10500 amount in bank for against a yearly interest of 6%. Hence the yearly interest will amount to around

10500 * 6% =  $ 630 per annum

Combine all ‘profit’ streams

In case Mario is taking combination of Big Game Simaro with Light Game Rovex the total profit will be:

Interest income	630
Average profit of Big Game Simaro	120540
Average profit of Light Game Rovex	79380
Profit	200550

In case Mario is taking combination of Big Game Simaro with Light Game Okuma the total profit will be:

Interest income	630
Average profit from Big Game Simaro	120540
Average profit from Light game okuma	110650
Profit	231820

The total profit combination shows that the second option is better than the first option.

In the books of Crazy Cuts

Journal account for the month ended 30^th June 2014

Date	Accounts	Debit ($)	Credit ($)
June 1	Bank account – Dr To Capital account [Being started business by opening up of a bank account]	32,000	32,000
June 3	Purchase account – Dr To Short term loan account To cash account [Being purchased shop fittings paying 2000 with a short term loan and paying the balance from business cash account]	7500	2000 5500
June 6	Hair cut sales account – Dr To cash To Debtors  [Being performed haircuts for cash and credit]	980	860 120
June 9	Dinner expenses account – Dr To Bank account [Being paid dinner expenses of wife from personal bank account]	90	90
June 11	Debtors account– Dr To Hair cut sales account [Being received the credit amount form the customer]	120	120
June 30	Electricity expenses account – Dr To Bank account [Being paid electricity expenses through bank account]	150	150

In the books of Crazy Cuts

Ledger accounts for the year ended 30^th June 2014

Cash account
Dr			Cr
Date	Particulars	amount	Date	Particulars	Amount
			3-Jun	By purcahse	5500
			6-Jun	By Hair cut sales	860
					6360
30-Jun	To bal c/d	6360
		6360			6360
			1-Jul	By bal b/d	6360

Capital account
Dr			Cr
Date	Particulars	Amount	Date	Particulars	Amount
			1-Jun	By Bank	32000
30-Jun	To bal c/d	32000
		32000			32000
			1-Jul	By bal b/d	32000

 

Bank account
Dr			Cr
Date	Particulars	Amount	Date	Particulars	Amount
1-Jun	To capital	32000	9-Jun	By dinner expenses	90
			30-Jun	By electricity expenses	150
			30-Jun	By bal c/d	31760
		32000			32000
To bal b/d	31760

 

Dinner expenses account
Dr			Cr
Date	Particulars	Amount	Date	Particulars	Amount
9-Jun	To bank account	90	30-Jun	By bal c/d	90
		90			90
1-Jul	To bal b/d	90

 

Debtors account
Dr			Cr
Date	Particulars	amount	Date	Particulars	Amount
6-Jun	To hair cut services	120	11-Jun	By cash	120
		120			120

 

Purchase account
Dr			Cr
Date	Particulars	Amount	Date	Particulars	Amount
3-Jun	To short term loan	2000
	To cash	5500	30-Jun	by bal c/d	7500
		7500			7500
1-Jul	To bal b/d	7500

 

Short term loan
Dr			Cr
Date	Particulars	Amount	Date	Particulars	Amount
30-Jun	To bal c/d	2000	3-Jun	By purchase	2000
		2000			2000
			1-Jul	By bal b/d	2000

 

Hair cut services account
Dr			Cr
Date	Particulars	Amount	Date	Particulars	Amount
6-Jun	To cash	860	11-Jun	By debtors	120
	To debtors	120	30-Jun	By bal c/d	860
		980			980
1-Jul	To bal b/d	860

Trial Balance

 

Electricity expenses account
Dr			Cr
Date	Particulars	Amount	Date	Particulars	Amount
30-Jun	To Bank	150	30-Jun	By bal c/d	150
		150			150
1-Jul	To bal b/d	150

In the books of Crazy cut

Trial balance as on 30^th June 2014

Sl no.	Name of the account	Debit ($)	Credit ($)
1	Cash account		6360
2	Capital account		32000
3	Bank account	31760
4	Dinner expenses account	90
5	Purchase account	7500
6	Short term loan		2000
7	Hair cut expenses account	860
8	Electricity expenses account	150
	Total	40360	40360

2 B) General Ledger

In the books of Clean

Ledger accounts for the month ended 31 March 2014

Date	Item	$	Date	Item	$
1 March	To Andy Whistle, Capital	5200	9 March	By Fuel expenses	85
16 March	To window cleaning revenue	1000	31 March	By bal c/d	6115
		6200			6200
1 April	To Bal b/d	6115

Date	Item	$	Date	Item	$
31 March	To bal c/d	180	31 March	By window cleaning revenue	180
		180			180
			1 april	By bal b/d	180

Date	Item	$	Date	Item	$
22 March	To accounts payable	200	31 March	By bal c/d	200
		200			200
1 aprl	To Bal b/d	200

Date	Item	$	Date	Item	$
31 march	To bal c/d	200	22 March	By supplies	200
		200			200
			1 april	By bal b/d	200

 

Date	Item	$	Date	Item	$
31 march	To bal c/d	5200	1March	By cash at bank	5200
		5200			5200
			1 april	By bal b/d	5200

Date	Item	$	Date	Item	$
31March	To bal c/d	1180	16 March	By cash at bank	1000
			31 March	By accounts receivable	180
		1180			1180
			1 april	By bal b/d	1180

 

Date	Item	$	Date	Item	$
9 March	To cash  at bank	85	31 march	By bal c/d	85
		85			85
1 April	To bal b/d	85

 

Account Title	Debit	Credit
Fuel expenses	85
Window cleaning revenue		1180
Accounts payable		200
Andy whistle capital		5200
Supplies	200
Accounts receivable	180
Cash at bank	6115
Total	6580	6580

D)  The journal on 9th March shows the transaction for Cash paid from bank account for fuel expenses. In this transaction it is seen that two accounts are affected namely Fuel expenses and Cash at bank. The fuel expense account is a nominal account and cash at bank is a real account. The golden rules for both accounts are:

Nominal account

Dr: all expenses and losses

Cr: All incomes and gains

Real account

Dr: what comes in

Cr: What goes out

Hence keeping the rules in mind the nominal account fuel expenses are debited because it I s an expense for the business and cash at bank account is credited because the cash is going out of business for the payment of the expense (Collis et al. 2012).

3. (A) In the books of Sophie Superb Curtain

Income statement for the month ended 31 March 2014

Expenses	amount	Amount
Rent expense	500
Electricity expense	90
Postage expense	20
Office supplies expenses	400
Fuel expense	100
Office supplies	620
Wages	1400
Total expenses		3130
Income	amount	amount
Curtain making expenses		4710
Net profit		1580

(B)  Statement of changes in owner’s equity

Sophie Superb Curtain Statement of changes in  owners’ equity
Investments during the month (Owners capital)
Office equipments	10000
Commercial van	22000
Cash in a business bank	10000
	42000
Add: Net profit during the year	1580
	43580
Less: Withdrawals	(200)
Net increase in owner’s equity	43380

(c)  Balance sheet as on 31 March 2014

Balance sheet as on 31March 2014
Assets	amount	amount
Cash at bank	9260
Office equipment	10000
Commercial vehicles	22000
Accounts receivable	1820
Sewing machine	3680
Total assets (A)		46760
Liabilities
Capital	43380
Accounts payable	500
Loan payable	2880
Total liabilities		46760

According to Power (2010) unearned income or more commonly known as the passive income is a type of income that the party receives by virtue of owning a property. Some of the incomes which come under unearned income areas follow:

•    Income earned in kind support or maintenance like food and shelter

•    Private pensions and annuities

•    Gifts and inheritances

•    Prize and awards

•    Dividends and interests

•    Rent and royalties

•    Alimony payments in cash and kind

•    Payments made for security purposes like jury fees, payment to agricultural workers, tips

In the accounting terms this kind of income is considered as deferred income which means that the revenue is already collected but not yet earned in simple words advances form customers (Barnes, (2011). Under the rules of GAAP the accounting transactions are recorded on an accrual basis that is income recorded when it is earned. Hence the unearned income cannot be recorded as revenue rather it should be recorded as a liability until the time it is actually earned.

Horngren et al. (2012) In the given case Jane has received advance payment of the rent of jumping castle from the client one month before the delivery of the product. Hence it is an unearned income. Since the income has not been accrued by Jane hence it will not be recorded as revenue. The recording of the income in two ways are as follows.

Suppose the advance rent amount received by Jane is $2000 then under the liability method the following recording will be done.

Cash account – Dr

To Unearned income account

The transaction will be recorded in the following manner in income method

Cash account – Dr

To service Income account

Reference list

Collis, J., Holt, A., & Hussey, R. (2012). Business accounting. Houndmills, Basingstoke, Hampshire: Palgrave Macmillan.

Horngren, C., Harrison, W., & Oliver, M. (2012). Accounting. Upper Saddle River, N.J.: Pearson Prentice Hall.

Barnes, P. (2011). Creative Accounting, Fraud and International Accounting Scandals. Accounting And Business Research, 41(4), 411-412. doi:10.1080/00014788.2011.610703

Power, M. (2010). Fair value accounting, financial economics and the transformation of reliability. Accounting And Business Research, 40(3), 197-210. doi:10.1080/00014788.2010.9663394

Zeff, S. (2010). The Routledge Companion to Accounting History. Accounting, Business & Financial History, 20(1), 107-112. doi:10.1080/09585200903504298