Question

(Premium Entries and Financial Statement Presentation) Sycamore Candy Company offers an MP3 download (seven-single medley) as a premium for every five candy bar wrappers presented by customers together with \(2.50. The candy bars are sold by the company to distributors for 30 cents each. The purchase price of each download code to the company is \)2.25. In addition, it costs 50 cents to distribute each code. The results of the premium plan for the years 2017 and 2018 are as follows. (All purchases and sales are for cash.)

2017 2018

MP3 codes purchased 250,000 330,000

Candy bars sold 2,895,400 2,743,600

Wrappers redeemed 1,200,000 1,500,000

2017 wrappers expected to be redeemed in 2018 290,000

2018 wrappers expected to be redeemed in 2019 350,000

Instructions

(a) Prepare the journal entries that should be made in 2017 and 2018 to record the transactions related to the premium plan of the Sycamore Candy Company.

(b) Indicate the account names, amounts, and classifications of the items related to the premium plan that would appear on the balance sheet and the income statement at the end of 2017 and 2018

Short answer

(a) Journal entries for the years 2017 and 2018 are recorded in Step 1.

(b) Indications of accounts, amount and classifications are reported in Step 3.

Step-by-step solution

(a) Journal entry for 2018 and 2017

Date	Accounts & Explanations	Debit	Credit
2017	Inventory of Premiums (250,000 x $2.25)	$562,500
	Cash		$562,500
	(To record purchase of MP3 downloads)
2017	Cash (2,895,400 x 0.30)	$868,620
	Sales Revenue		$868,620
	(To record sale of candy bars)
2017	Cash	$480,000
	Premium Expense	$60,000
	Inventory of Premiums		$540,000
	(To record the redemption of wrappers)
Dec.31,2017	Premium Expense (290,000 / 5) x ($2.25+$0.50-$2.50)	$14,500
	Premium Liability		$14,500
	(To record the estimated premium claims)
2018	Inventory of Premiums (330,000 x $2.25)	$742,500
	Cash		$742,500
	(To record purchase of MP3 downloads)
2018	Cash (2,743,600 x 0.30)	$823,080
	Sales Revenue		$823,080
	(To record sale of candy bars)
2018	Cash ($750,000 - $150,000)	$600,000
	Premium Liability	$14,500
	Premium Expense	$60,500
	Inventory of Premiums		$675,000
	(To record the redemption of wrappers)
Dec.31,2018	Premium Expense (350,000 / 5) x ($2.25+$0.50-$2.50)	$17,500
	Premium Liability		$17,500
	(To record the estimated premium claims)

Calculations of premium expenses and related accounts for 2018 and 2017

For the year 2017 :

Total wrappers redeemed	1,200,000
Ratio of codes	5
Number of codes (1,200,000 / 5)	240,000
Purchase price of codes	(240,000 x $2.25)	$540,000
Distribution cost	(240,000 x $0.50)	$120,000
Total cost		$660,000
Less: Cash received	(240,000 x $2.50)	($600,000)
Premium expense for 2017		$60,000

For the year 2018:

Total wrappers redeemed	1,500,000
Ratio of codes	5
Number of codes (1,200,000 / 5)	300,000
Purchase price of codes	(300,000 x $2.25)	$675,000
Distribution cost	(300,000 x $0.50)	$150,000
Total cost		$825,000
Less: Cash received	(300,000 x $2.50)	($750,000)
Premium expense for codes		$75,000
Less: Claim of 2017		($14,500)
Premium expense for 2018		$60,500

(b) Indications of accounts of balance sheet and income statement

Balance sheet 2017
Account	Amount	Classification
Inventory of premiums (250,000-240,000) x $2.25	$22,500	Current asset
Premium liability	$14,500	Current Liability
Income statement 2017
Account	Amount	Classification
Premium expense ($60,000+$14,500)	$74,500	Selling expense

Balance sheet 2018
Account	Amount	Classification
Inventory of premiums (10,000+330,000-300,000) x $2.25	$90,000	Current asset
Premium liability	$17,500	Current Liability
Income statement 2018
Account	Amount	Classification
Premium expense ($60,500+$17,500)	$78,000	Selling expense