On March 1, Johnson Inc. Purchased 500 Shares Of Thomas Comp
On March 1 Johnson Inc Purchased 500 Shares Of Thomas Company
Identify the assignment questions or prompts, clean them by removing any meta-instructions, repetitive lines, or extraneous information, and keep only the core tasks. The cleaned assignment instructions are as follows:
1. On March 1, Johnson Inc. purchased 500 shares of Thomas Company stock when the stock was selling for $20 per share. Johnson plans to hold this stock for a short time and hopes to sell it for a gain. On December 31, Thomas’ stock is selling for $18 per share. Determine the unrealized gain or loss Johnson would report on its income statement. Show how the investment would be reported on Johnson’s balance sheet.
2. Knockoff Corporation purchased $300,000 of raw materials inventory on account. The company incurs salary expense of $45,000, which will not be paid until July. Knockoff owes $120,000 in taxes. The company receives an advance payment of $23,000 from OK Buy for upcoming Gii shipments. It also owes $4,000 in interest to a bank. If Knockoff has $800,000 in current assets, and the liabilities from the above transactions are considered, what is Knockoff’s current ratio? Given that its main competitor, PlayItAgain, has a current ratio of 2.1, which company would you prefer to invest in and why?
Paper For Above instruction
The following paper addresses the financial analysis of investment and liquidity positions of Johnson Inc. and Knockoff Corporation, respectively. These cases illustrate key concepts in accounting such as unrealized gains/losses on investments and liquidity ratios, which are essential for sound financial decision-making and investment evaluations.
Unrealized Gain or Loss on Investment – Johnson Inc.
Johnson Inc. purchased 500 shares of Thomas Company stock on March 1 at a price of $20 per share. The total investment amounted to $10,000 (500 shares x $20). As per accounting standards, short-term equity investments are usually classified as trading securities, which are reported at fair value with unrealized gains or losses recognized in net income. By December 31, however, Thomas’s stock price declined to $18 per share, resulting in a new market value of $9,000 (500 shares x $18).
Therefore, Johnson reports an unrealized loss of $1,000 on its income statement because the fair value of the investment has decreased. This loss impacts the company's net income, reflecting the temporary decline in the market value of Thomas’s stock. Meanwhile, on the balance sheet, the investment is reported at fair value of $9,000, which is the current market value, reducing the asset’s book value (see example below).
| Reporting on Balance Sheet | Details |
|---|---|
| Investment in Thomas Company | $9,000 (500 shares x $18) |
This adjustment aligns with the fair value principle in accounting, ensuring the financial statements accurately reflect the current market conditions at year-end.
Liquidity Ratios – Knockoff Corporation
Knockoff Corporation’s recent transactions impacted its current assets and liabilities, which are crucial for calculating its current ratio, a key liquidity metric. The current assets stand at $800,000, as given. The liabilities considered include:
- Accounts payable for raw materials: $300,000
- Accrued salary expense (not yet paid): $45,000
- Taxes owed: $120,000
- Interest owed to the bank: $4,000
Expenses such as salaries and taxes, and liabilities like accounts payable and interest, contribute to total current liabilities. Summing these, the total current liabilities are:
- $300,000 (accounts payable)
- $45,000 (salaries payable)
- $120,000 (taxes payable)
- $4,000 (interest payable)
Total current liabilities amount to $469,000. The current ratio is calculated as:
Current Ratio = Current Assets / Current Liabilities = $800,000 / $469,000 ≈ 1.70
This ratio indicates Knockoff’s ability to cover its short-term obligations. Compared to PlayItAgain’s current ratio of 2.1, Knockoff’s ratio suggests a lower liquidity cushion, which could be a concern for creditors and investors.
Investment Decision Analysis
When choosing an investment, liquidity ratios provide critical insights into a company’s ability to meet short-term obligations, which reflects operational stability and risk. A higher current ratio generally signifies a safer investment, indicating the company has a comfortable margin of assets to liabilities. In this case, PlayItAgain’s current ratio of 2.1 demonstrates a strong liquidity position, suggesting low short-term risk.
Contrastingly, Knockoff’s current ratio of approximately 1.70 indicates a weaker liquidity position. Although this ratio is above 1, implying it can cover its current liabilities, it leaves less buffer in adverse conditions. Therefore, from a safety and risk perspective, an investor might prefer to invest in PlayItAgain due to its higher liquidity buffer, which suggests more stable short-term financial health. However, other factors such as profitability, growth prospects, and industry position should also influence investment choices beyond liquidity metrics.
Conclusion
Financial analyses of investment unrealized gains and liquidity ratios are vital tools for assessing firm health. For Johnson Inc., recognizing unrealized losses ensures transparency and accurate financial reporting, aligning with fair value accounting principles. Knightoff’s liquidity assessment shows that, although it maintains sufficient current assets, it operates with a narrower safety margin compared to competitors. Investors need to consider such financial ratios alongside other qualitative factors to make informed investment decisions.
References
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- Investopedia. (2022). Current Ratio. Retrieved from https://www.investopedia.com/terms/c/currentratio.asp
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