Explain the relationship between financial statements and why it is useful for managers to understand all three.

Statement of earnings, a statement of retained earnings

The balance sheet ( attached )

Use the reading on preparing financial statements provided in the course pack, the course text chapter examples to prepare these statements.

Various balance sheet and statements of earnings accounts for Home Restoration Outlet Ltd. are listed below in random order. You will have to determine which account goes in which statement to solve the questions.

The balance sheet accounts are as of December 31, 2005, except as noted. The statement of earnings amounts are for the year January 1 to December 31, 2005. All accounts are shown in thousands of dollars.

1) Prepare a statement of earnings, a statement of retained earnings, and a balance sheet.

2) Explain the relationship between financial statements and why it is useful for managers to understand all three.

3) Perform a “current ratio” analysis for the company and explain the company’s liquidity position.

Balance sheet and statement of earnings accounts

Cash $40
Retained earnings, Dec 31, 2004 $255
Inventory, Dec 31, 2004 $425
Note payable, due Feb 2006 $25
Selling expenses $482
Accounts payable $85
Accounts receivable $104
Sales $2,409
Income tax rate 50%
Building and equipment, cost $150
Dividends $70
Total Long term loan, due June 2015 $110
– 2006 portion $10 ($10 of the $110)
Purchases $1,304
Income tax payable $25
Marketable securities $30
Depreciation expense, building and equipment $23
General and administrative expenses $215
Cost of goods sold $1,419
Goodwill $85
Other expenses, interest $20
Prepaid expenses $42
Common stock $130
“Accumulated depreciation,
build. & equip. Dec 31, 2004” $53

Explain the relationship between financial statements and why it is useful for managers to understand all three.

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