The bookkeeper for Sam Kaplin Equipment Repair made a number of errors in journalizing and posting, as described below.
1. A credit posting of $400 to Accounts Receivable was omitted.
2. A debit posting of $750 for Prepaid Insurance was debited to Insurance Expense.
3. A collection from a customer of $100 in payment of its account owed was journalized and posted as a debit to Cash $100 and a credit to Service Revenue $100.
4. A credit posting of $300 to Property Taxes Payable was made twice.
5. A cash purchase of supplies for $250 was journalized and posted as a debit to Supplies $25 and a credit to Cash $25.
6. A debit of $475 to Advertising Expense was posted as $457.
Instructions
For each error:
(a) Indicate whether the trial balance will balance.
(b) If the trial balance will not balance, indicate the amount of the difference.
(c) Indicate the trial balance column that will have the larger total.
Consider each error separately. Use the following form, in which error (1) is given as an example.
Frontier Park was started on April 1 by C. J. Mendez.The following selected events and transactions occurred during April.
Apr. 1 Mendez invested $40,000 cash in the business.
4 Purchased land costing $30,000 for cash.
8 Incurred advertising expense of $1,800 on account.
11 Paid salaries to employees $1,500.
12 Hired park manager at a salary of $4,000 per month, effective May 1.
13 Paid $1,500 cash for a one year insurance policy.
17 Withdrew $1,000 cash for personal use.
20 Received $5,700 in cash for admission fees.
25 Sold 100 coupon books for $25 each. Each book contains 10 coupons that entitle the holder to one admission to the park.
30 Received $8,900 in cash admission fees.
30 Paid $900 on balance owed for advertising incurred on April 8.
Mendez uses the following accounts: Cash, Prepaid Insurance, Land, Accounts Payable, Unearned Admission Revenue, C. J. Mendez, Capital; C. J. Mendez, Drawing; Admission Revenue, Advertising Expense, and Salaries Expense.
The trial balance of the Sterling Company shown below does not balance.
STERLING COMPANY Trial Balance May 31, 2010
Debit
Credit
Cash
$5,850
Accounts Receivable
$2,750
Prepaid Insurance
700
Equipment
8,000
Accounts Payable
4,500
Property Taxes Payable
M. Sterling, Capital
11,700
Service Revenue
6,690
Salaries Expense
4,200
Advertising Expense
1,100
Property Tax Expense
800
$26,800
$20,050
Your review of the ledger reveals that each account has a normal balance.You also discover the following errors.
1. The totals of the debit sides of Prepaid Insurance, Accounts Payable, and Property Tax Expense were each understated $100.
2. Transposition errors were made in Accounts Receivable and Service Revenue. Based on postings made, the correct balances were $2,570 and $6,960, respectively.
3. A debit posting to Salaries Expense of $200 was omitted.
4. A $1,000 cash drawing by the owner was debited to M. Sterling, Capital for $1,000 and credited to Cash for $1,000.
5. A $520 purchase of supplies on account was debited to Equipment for $520 and credited to Cash for $520.
6. A cash payment of $450 for advertising was debited to Advertising Expense for $45 and credited to Cash for $45.
7. A collection from a customer for $210 was debited to Cash for $210 and credited to Accounts Payable for $210.
Instructions
Prepare a correct trial balance. Note that the chart of accounts includes the following:
M. Sterling, Drawing; and Supplies. (Hint: It helps to prepare the correct journal entry for the transaction described and compare it to the mistake made.)
The Lake Theater is owned by Tony Carpino.All facilities were completed on March 31. At this time, the ledger showed: No. 101 Cash $6,000, No. 140 Land $10,000, No. 145 Buildings (concession stand, projection room, ticket booth, and screen) $8,000, No. 157 Equipment $6,000, No. 201 Accounts Payable $2,000, No. 275 Mortgage Payable $8,000, and No. 301 Tony Carpino, Capital $20,000. During April, the following events and transactions occurred. Apr. 2 Paid film rental of $800 on first movie. 3 Ordered two additional films at $1,000 each.
9 Received $2,800 cash from admissions. 10 Made $2,000 payment on mortgage and $1,000 for accounts payable due. 11 Lake Theater contracted with R. Wynns Company to operate the concession stand. Wynns is to pay 17% of gross concession receipts (payable monthly) for the right to operate the concession stand.
12 Paid advertising expenses $500.
20 Received one of the films ordered on April 3 and was billed $1,000. The film will be shown in April. 25 Received $5,200 cash from admissions. 29 Paid salaries $2,000. 30 Received statement from R.Wynns showing gross concession receipts of $1,000 and the balance due to The Lake Theater of $170 ($1,000 _ 17%) for April.Wynns paid one half of the balance due and will remit the remainder on May 5. 30 Prepaid $900 rental on special film to be run in May.
In addition to the accounts identified above, the chart of accounts shows: No. 112 Accounts Receivable,No. 136 Prepaid Rentals,No. 405 Admission Revenue,No. 406 Concession Revenue, No. 610 Advertising Expense, No. 632 Film Rental Expense, and No. 726 Salaries Expense.
Instructions
(a) Enter the beginning balances in the ledger as of April 1. Insert a check mark () in the reference column of the ledger for the beginning balance.
(b) Journalize the April transactions.
(c) Post the April journal entries to the ledger. Assume that all entries are posted from of the journal.
Hyzer Disc Golf Course was opened on March 1 by Barry Schultz. The following selected events and transactions occurred during March:
Mar. 1 Invested $20,000 cash in the business.
3 Purchased Heeren’s Golf Land for $15,000 cash. The price consists of land $12,000, shed $2,000, and equipment $1,000. (Make one compound entry.)
5 Advertised the opening of the driving range and miniature golf course, paying advertising expenses of $700.
6 Paid cash $600 for a one year insurance policy.
10 Purchased golf discs and other equipment for $1,050 from Innova Company payable in 30 days. 18 Received $340 in cash for golf fees earned. 19 Sold 100 coupon books for $10 each. Each book contains 4 coupons that enable the holder to play one round of disc golf. 25 Withdrew $800 cash for personal use.
30 Paid salaries of $250. 30 Paid Innova Company in full. 31 Received $200 cash for fees earned. Barry Schultz uses the following accounts: Cash, Prepaid Insurance, Land, Buildings, Equipment, Accounts Payable, Unearned Revenue, B. Schultz, Capital; B. Schultz, Drawing; Golf Revenue, Advertising Expense, and Salaries Expense.
The trial balance of Syed Moiz Co. shown below does not balance.
SYED MOIZ CO. Trial Balance June 30, 2010
Debit
Credit
Cash
$ 3,340
Accounts Receivable
$ 2,731
Supplies
1,200
Equipment
2,600
Accounts Payable
3,666
Unearned Revenue
1,100
S. Moiz, Capital
8,000
S. Moiz, Drawing
800
Service Revenue
2,480
Salaries Expense
3,200
Office Expense
810
$12,441
$17,486
Each of the listed accounts has a normal balance per the general ledger. An examination of the ledger and journal reveals the following errors.
1. Cash received from a customer in payment of its account was debited for $480, and Accounts Receivable was credited for the same amount.The actual collection was for $840.
2. The purchase of a computer on account for $620 was recorded as a debit to Supplies for $620 and a credit to Accounts Payable for $620.
3. Services were performed on account for a client for $890. Accounts Receivable was debited for $890, and Service Revenue was credited for $89.
4. A debit posting to Salaries Expense of $700 was omitted.
5.
6. The withdrawal of $600 cash for Moiz’s personal use was debited to Salaries Expense for $600 and credited to Cash for $600.
Instructions
Prepare a correct trial balance. (Hint: It helps to prepare the correct journal entry for the transaction described and compare it to the mistake made).
The Josie Theater, owned by Josie Micheals, will begin operations in March. The Josie will be unique in that it will show only triple features of sequential theme movies. As of March 1, the ledger of Josie showed: No. 101 Cash $9,000, No. 140 Land $24,000, No. 145 Buildings (concession stand, projection room, ticket booth, and screen) $10,000, No. 157 Equipment $10,000, No. 201 Accounts Payable $7,000, and No. 301 J. Micheals, Capital $46,000. During the month of March the following events and transactions occurred.
Mar. 2
Rented the three Indiana Jones movies to be shown for the first 3 weeks of March. The
film rental was $3,500; $1,500 was paid in cash and $2,000 will be paid on March 10.
3
Ordered the Lord of the Rings movies to be shown the last 10 days of March. It will
cost $200 per night.
9
Received $4,000 cash from admissions.
10
Paid balance due on Indiana Jones movies rental and $2,100 on March 1 accounts
11
Josie Theater contracted with Stephanie Becker to operate the concession stand.
Becker is to pay 15% of gross concession receipts (payable monthly) for the right to
Operate the concession stand.
12
Paid advertising expenses $450.
20
Received $5,000 cash from customers for admissions.
20
Received the Lord of Rings movies and paid the rental fee of $2,000.
31
Paid salaries of $2,500.
31
Received statement from Stephanie Becker showing gross receipts from concessions
of $6,000 and the balance due to Josie Theater of $900 ($6,000 15%) for March.
Becker paid one half the balance due and will remit the remainder on April 5.
31
Received $9,000 cash from customers for admissions.
In addition to the accounts identified above, the chart of accounts includes: No. 112 Accounts Receivable, No. 405 Admission Revenue, No. 406 Concession Revenue, No. 610 Advertising Expense, No. 632 Film Rental Expense, and No. 726 Salaries Expense.
Instructions
(a) Enter the beginning balances in the ledger. Insert a check mark (?) in the reference column of the ledger for the beginning balance.
(b) Journalize the March transactions.
(c) Post the March journal entries to the ledger. Assume that all entries are posted from of the journal.
Lisa Ortega operates Ortega Riding Academy.The academy’s primary sources of revenue are riding fees and lesson fees, which are paid on a cash basis. Lisa also boards horses for owners, who are billed monthly for boarding fees. In a few cases, boarders pay in advance of expected use. For its revenue transactions, the academy maintains the following accounts:
No. 1 Cash, No. 5 Boarding Accounts Receivable, No. 27 Unearned Boarding Revenue, No. 51 Riding Revenue, No. 52 Lesson Revenue, and No. 53 Boarding Revenue. The academy owns 10 horses, a stable, a riding corral, riding equipment, and office equipment. These assets are accounted for in accounts No. 11 Horses, No. 12 Building, No. 13 Riding Corral, No. 14 Riding Equipment, and No. 15 Office Equipment. For its expenses, the academy maintains the following accounts: No. 6 Hay and Feed Supplies, No. 7 Prepaid Insurance, No. 21 Accounts Payable, No. 60 Salaries Expense, No. 61 Advertising Expense, No. 62 Utilities Expense, No. 63 Veterinary Expense, No. 64 Hay and Feed Expense, and No. 65 Insurance Expense.
Lisa makes periodic withdrawals of cash for personal living expenses.To record Lisa’s equity in the business and her drawings, two accounts are maintained: No. 50 Lisa Ortega, Capital, and No. 51 Lisa Ortega, Drawing.
During the first month of operations an inexperienced bookkeeper was employed. Lisa Ortega asks you to review the following eight entries of the 50 entries made during the month. In each case, the explanation for the entry is correct.
may 1
Cash
18000
Lisa Ortega, Capital
18000
(Invested $18,000 cash in business)
5
Cash
250
Riding Revenue
250
(Received $250 cash for lessons provided)
7
Cash
300
Boarding Revenue
300
(Received $300 for boarding of horses
beginning June 1)
14
Riding Equipment
80
Cash
800
(Purchased desk and other office
equipment for $800 cash)
15
Salaries Expense
400
Cash
400
(Issued check to Lisa Ortega for personal use)
20
Cash
148
Riding Revenue
184
(Received $184 cash for riding fees)
30
Veterinary Expense
75
Accounts Payable
75
(Received bill of $75 from veterinarian for
services rendered)
31
Hay and Feed Expense
1700
Cash
1700
(Purchased an estimated 2 months’
supply of feed and hay for $1,700 on account)
Instructions
With the class divided into groups, answer the following.
(a) Identify each journal entry that is correct. For each journal entry that is incorrect, prepare the entry that should have been made by the bookkeeper.
(b) Which of the incorrect entries would prevent the trial balance from balancing?
(c) What was the correct net income for May, assuming the bookkeeper reported net income of $4,500 after posting all 50 entries?
(d) What was the correct cash balance at May 31, assuming the bookkeeper reported a balance of $12,475 after posting all 50 entries (and the only errors occurred in the items listed above)?
Mary Jansen is the assistant chief accountant at Casey Company, a manufacturer of computer chips and cellular phones. The company presently has total sales of $20 million. It is the end of the first quarter. Mary is hurriedly trying to prepare a general ledger trial balance so that quarterly financial statements can be prepared and released to management and the regulatory agencies. The total credits on the trial balance exceed the debits by $1,000. In order to meet the 4 p.m. deadline, Mary decides to force the debits and credits into balance by adding the amount of the difference to the Equipment account. She chose Equipment because it is one of the larger account balances; percentage wise, it will be the least misstated. Mary “plugs” the difference! She believes that the difference will not affect anyone’s decisions. She wishes that she had another few days to find the error but realizes that the financial statements are already late.
Instructions
(a) Who are the stakeholders in this situation?
(b) What are the ethical issues involved in this case?
Visual Inspection The following changes in account balances and other information for 2007 were taken from the accounting records of the Gordon Company:
Net Changes for 2007
Debit
Credit
Cash
$1,000
Accounts receivable
$1,100
Inventory
2,000
Buildings and equipment
8,800
Accumulated depreciation
2,900
Accounts payable
900
Common stock, no par
5,500
Retained earnings
3,200
$12,700
$12,700
Other information: Net income totaled $5,800. Dividends were declared and paid. Equipment was purchased for $8,800. No buildings and equipment were sold during the year. One hundred shares of common stock were sold for $55 per share. The ending cash balance was $4,200.
Required
Using visual inspection, prepare a 2007 statement of cash flows for the Gordon Company.
Visual Inspection The following changes in account balances and other information for 2007 were taken from the accounting records of the Noble Company:
Net Changes for 2007
Debit
Credit
Cash
$1,900
$2,000
Accounts receivable
Inventory
2,400
Land
1,700
Buildings and equipment
23,000
Accumulated depreciation
4,500
Accounts payable
1,600
Salaries payable
600
Bonds payable
5,000
Common stock, no par
3,000
Retained earnings
5,300
$25,500
$25,500
Other information: Net income was $9,900. Dividends were declared and paid. Land was sold for $1,700; a building was purchased for $23,000. No land was purchased and no buildings and equipment were sold. Bonds payable were issued at the end of the year. Two hundred shares of stock were issued for $15 per share. The beginning cash balance was $4,800.
Required
Using visual inspection, prepare a 2007 statement of cash flows for the Noble Company.
Selected transactions for the Finney Company are presented in journal form below. Post the transactions to T accounts. Make one T account for each item and determine each account’s ending balance.
Sale Leaseback On January 1, 2007 the Orr Company sells heavy equipment to Foible Company for $3 million, then immediately leases it back. The relevant information is as follows:
The lease is noncancelable and has a term of eight years. The annual rentals are $603,908.50, payable at the end of each year. The seller lessee agrees to pay all executory costs. The interest rate implicit in the lease is 12%. The cost of the heavy equipment to Orr Company is $2,100,000. The purchaser lessor incurs no material initial direct costs. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Orr’s incremental borrowing rate is 12% and the company estimates that the economic life of the equipment is eight years. The present value on January 1, 2007 of eight payments of $603,908.50, discounted at 12%, is $3 million ($603,908.50 X 4.967640). The executory costs for 2007 are:
Repairs and maintenance
$10,200
Property taxes
20,500
Insurance
18,000
Required
1. What type of lease is this to the seller lessee? Discuss.
2. Prepare the journal entries for both the seller lessee and the purchaser lessor for 2007 to reflect the sale and leaseback agreement. Assume that the company uses the straight line depreciation method.
Sales Type Lease Issues Jordan Industries manufactures and leases to its customers five ton construction dump trucks. The lease arrangements are usually as follows:
1. Payments on the lease are due for five years after its inception, but the present value is not greater than 90% of the fair value of the trucks at the time of sale.
2. The trucks revert to Jordan at the end of the lease. Estimated economic life of the trucks is 10 years.
3. No substantial uncertainties exist as to future payments Jordan must make, and potential customers are thoroughly checked for creditworthiness before the trucks are leased to them.
4. Jordan’s accountant has informed the company that there are advantages from a reporting standpoint in treating the leases as sales type instead of operating leases.
Required
1. Discuss the reasons why Jordan would want to treat the leases as sales type instead of operating leases.
2. Explain what Jordan should do, under the requirements of FASB Statement No. 13 as Amended, to treat the leases properly as sales type leases.
Classification of Leases Part a. Capital leases and operating leases are the two classifications of leases for the lessee.
Required
1. Explain how a capital lease is accounted for by the lessee, both at the inception of the lease and during the first year of the lease, assuming the lease transfers ownership of the property to the lessee by the end of the lease.
2. Explain how an operating lease is accounted for by the lessee, both at the inception of the lease and during the first year of the lease, assuming equal monthly payments are made by the lessee at the beginning of each month of the lease. Describe the change in accounting, if any, when rental payments are not made on a straight line basis.
Do not discuss the criteria for distinguishing between capital leases and operating leases.
Part b. Sales type leases and direct financing leases are two of the classifications of leases for the lessor.
Required
Write a short report that compares and contrasts a sales type lease with a direct financing lease as follows:
1. Gross investment in the lease.
2. Amortization of unearned interest income.
3. Manufacturer’s or dealer’s profit.
Do not discuss the criteria for distinguishing between the leases described above and operating leases.
Miscellaneous Lease Issues On January 1, 2007 Von Company entered into two noncancelable leases for new machines to be used in its manufacturing operations. The first lease does not contain a bargain purchase option. The lease term is equal to 80% of the estimated economic life of the machine. The second lease contains a bargain purchase option. The lease term is equal to 50% of the estimated economic life of the machine.
Required
1. Explain the theoretical basis for requiring lessees to capitalize certain long term leases. Do not discuss the specific criteria for classifying a lease as a capital lease.
2. Explain how a lessee should account for a capital lease at its inception.
3. Explain how a lessee should record each minimum lease payment for a capital lease.
4. Explain how Von should classify each of the two leases.
Sale Leaseback On January 1, 2007 Metcalf Company sold equipment for cash and leased it back. As seller lessee, Metcalf retained the right to substantially all of the remaining use of the equipment. The term of the lease is eight years. There is a gain on the sale portion of the transaction. The lease portion of the transaction is classified appropriately as a capital lease.
Required
1. Explain the theoretical basis for requiring lessees to capitalize certain long term leases. Do not discuss the specific criteria for classifying a lease as a capital lease.
2. a. Explain how Metcalf should account for the sale portion of the sale leaseback transaction at January 1, 2007.
b. Explain how Metcalf should account for the leaseback portion of the sale leaseback transaction at January 1, 2007.
3. Explain how Metcalf should account for the gain on the sale portion of the sale leaseback transaction during the first year of the lease.
Capitalized and Operating Leases On January 1 Borman Company, a lessee, entered into three noncancelable leases for brandnew equipment, Lease J, Lease K, and Lease L. None of the three leases transfer ownership of the equipment to Borman at the end of the lease term. For each of the three leases, the present value of the minimum lease payments at the beginning of the lease term, excluding that portion of the payments representing executory costs such as insurance, maintenance, and taxes to be paid by the lessor, including any profit thereon, is 75% of the fair value of the equipment to the lessor at the inception of the lease. The following information is peculiar to each lease:
(a) Lease J does not contain a bargain purchase option. The lease term is equal to 80% of the estimated economic life of the equipment.
(b) Lease K contains a bargain purchase option. The lease term is equal to 50% of the estimated economic life of the equipment.
(c) Lease L does not contain a bargain purchase option. The lease term is equal to 50% of the estimated economic life of the equipment.
Required
1. Explain how Borman Company should classify each of the preceding three leases. Discuss the rationale for your answer.
2. What amount, if any, should Borman record as a liability at the inception of the lease for each of the preceding three leases?
3. Assuming that the minimum lease payments are made on a straight line basis, how should Borman record the minimum lease payment for each of the preceding three leases?
Disclosure of Leases and Related Issues United Manufacturing Company manufactures and leases computers to its customers. During 2007 the following lease transactions take place:
1. On January 1 a computer is leased to Superior Microelectronics Industries and is guaranteed by United against obsolescence. The present value of the lease payments is greater than 90% of the fair value of the computer to both United and Superior.
2. Also on January 1 a computer is leased to Pitt Steel Company. Because of Pitt’s unstable financial condition, its incremental borrowing rate is substantially greater than United’s rate implicit in the lease (which Pitt did not know and could not estimate).
Required
1. For the first transaction, explain on whose financial statements the leased computer is shown.
2. Explain under what conditions in the second transaction the computer could fail to be shown on either United’s or Pitt Steel’s balance sheets at December 31, 2007.
Types of Leases and Related Issues Circuit Village Company entered into a lease arrangement with Thomas Leasing Company for a certain machine. Thomas’s primary business is leasing, and it is not a manufacturer or dealer. Circuit Village will lease the machine for a period of four years, which is 50% of the machine’s economic life. Thomas will take possession of the machine at the end of the initial four year lease and lease it to another smaller company that does not need the most current version of the machine. Circuit Village does not guarantee any residual value for the machine and will not purchase the machine at the end of the lease term. Circuit Village’s incremental borrowing rate is 16% and the implicit rate on the lease is 14%. Circuit Village has no way of knowing or estimating the implicit rate used by Thomas. Using either rate, the present value of the minimum lease payments is between 90% and 100% of the fair value of the machine at the time of the lease agreement. Circuit Village has agreed to pay all executor costs directly, and no allowance for these costs is included in the lease payments. Thomas is reasonably certain that Circuit Village will pay all lease payments, and because it has agreed to pay all executory costs, there are no important uncertainties regarding costs to be incurred by Thomas.
Required
1. With respect to Circuit Village (the lessee), answer the following:
a. What type of lease has been entered into? Explain the reason for your answer.
b. How should Circuit Village compute the appropriate amount to record for the lease or asset acquired?
c. What accounts will be created or affected by this transaction, and how will the lease or asset or other cost be matched with earnings?
2. With respect to Thomas (the lessor), answer the following:
a. What type of leasing arrangement has been entered into? Explain the reason for your answer.
b. How should this lease be recorded by Thomas, and how are the appropriate amounts determined?
c. How should Thomas determine the appropriate amount of earnings to be recognized from each lease payment?
Capital Lease Issues On January 1, 2007 Lani Company entered into a noncancelable lease for a machine to be used in its manufacturing operations. The lease transfers ownership of the machine to Lani by the end of the lease term. The term of the lease is eight years. The minimum lease payment made by Lani on January 1, 2007 was one of eight equal annual payments. At the inception of the lease, the criteria established for classification as a capital lease by the lessee were met.
Required
1. Explain the theoretical basis for the accounting standard that requires certain long term leases to be capitalized by the lessee. Do not discuss the specific lease as a capital lease.
2. Explain how Lani should account for this lease at its inception and determine the amount to be recorded.
3. Explain what expenses related to this lease Lani will incur during the first year of the lease, and how they will be determined.
4. Explain how Lani should report the lease transaction on its December 31, 2007 balance sheet.
Sale Leaseback On December 31, 2006 Port Co. sold six month old equipment at fair value and leased it back. There was a loss on the sale. Port pays all insurance, maintenance, and taxes on the equipment. The lease provides for eight equal annual payments, beginning December 31, 2007, with a present value equal to 85% of the equipment’s fair value and sales price. The lease’s term is equal to 80% of the equipment’s useful life. There is no provision for Port to reacquire ownership of the equipment at the end of the lease term.
Required
1. a. Explain why it is important to compare an equipment’s fair value to its lease payments’ resent value, and its useful life to the lease term.
b. Evaluate Port’s leaseback of the equipment in terms of each of the four criteria for determination of a capital lease.
2. Explain how Port should account for the sale portion of the sale leaseback transaction at December 31, 2006.
3. Explain how Port should report the leaseback portion of the sale leaseback transaction on its December 31, 2007 balance sheet.
Ethics and Leasing You are an accountant for the ABC Mining Company, and the CFO gives you a copy of a recent lease agreement to record. As you read the agreement you discover the company has leased 12 trucks from the XYZ Finance Co. The fair value of the trucks is $2.4 million. ABC has agreed to pay $250,000 semiannually, in advance. The lease term is five years, and the lessor’s implicit rate is 8%. There is no option or requirement to purchase the trucks. This all seems straightforward, especially when you remember that the company recently borrowed from a bank and agreed to a 10% interest rate. Also, you recall that the company owns some similar trucks and depreciates them over eight years. You are about to leave the office early to meet some friends when you notice that there is a contingent rental of $97,592, payable by ABC Mining and starting with the seventh semiannual payment if the Consumer Price Index prevailing at the beginning of the lease increases in any one of the first three years of the lease.
Required
From financial reporting and ethical perspectives, discuss the issues raised by this situation.
Capital Lease Issues Situation The Cliborn Retail Company negotiated a lease for a retail store in a new shopping center that included 30 stores. The accountant for Cliborn, Gail Naugle, was given the lease agreement to analyze. She looked into whether the lease was a capital lease. The lease did not include a transfer of ownership or an option to purchase. The lease term was for 20 years and the present value of the minimum lease payments was $100,000. Unsure of the fair market value of the property or its life, she called the lessor’s controller. “That is easy,” he replied. “There is no fair value because we would never sell a single store in a shopping center. And, let’s see, 20 years divided by 75% is about 27 years, so the life of the property must be at least that much. Or do you want a capital lease?”
Directions
Assuming that you are Gail Naugle, research the generally accepted accounting principles and prepare a short memo to the controller of Cliborn that summarizes how to classify the lease. Cite your reference and applicable paragraph numbers.
Capital Lease Issues Situation The Stirbis Company was negotiating a lease for a new building that would be used as a warehouse. Stirbis’ accountant, Shannon Fenimore, had been invited to join Jim Stirbis (the president) in a meeting where the lease agreement was settled. The president of the company that owned the building said, “I assume you want an operating lease. “That is correct,” replied Jim Stirbis. The president responded, “So we will not include a transfer of ownership or an option to purchase. Anyway, I am sure you do not want to get into the real estate business.” “No, of course not.” “And we agree that the lease term is 30 years.”
“Yes, but that seems to present some problems. We would have to argue that the life of the building is more than 40 years.” “You should not have any trouble persuading your auditors to agree to that.”
“Maybe not. But the present value of the $53,040 annual lease payment is $500,000, which is the fair value of the building.”
“That is a problem. But I think I have a solution. We will adjust the annual payment to $45,000, so that the present value is only 85% of the fair value. Then we will add a clause that you also pay 1% of your total sales, up to a maximum of $8,040 each year.”
Directions
Assuming that you are Shannon Fenimore, research the generally accepted accounting principles and prepare a short memo to the controller of Stirbis that summarizes how to classify the lease. Cite your reference and applicable paragraph numbers.
The following information was taken from the accounting records of Oregon Corporation for 2007:
Proceeds from issuance of preferred stock
$4,000,000
Dividends paid on preferred stock
400,000
Bonds payable converted to common stock
2,000,000
Payment for purchase of machinery
500,000
Proceeds from sale of plant building
1,200,000
2% stock dividend on common stock
300,000
Gain on sale of plant building
200,000
Oregon’s statement of cash flows for the year ended December 31, 2007 should show the following amounts for investing and financing activities, based on the preceding information:
Direct and Indirect Methods The Dauve Company reported the following condensed income statement for 2007:
Sales
$100,000
Cost of goods sold
58,000
Gross profit
$42,000
Operating expenses
Depreciation expense
$8,000
Salaries expense
12,000
20,000
Income before income taxes
$22,000
Income tax expense
6,600
Net income
$15,400
During 2007, the following changes occurred in the company’s current assets and current liabilities:
Increase (Decrease)
Cash
$3,700
Accounts receivable
5,500
Inventories
8,900
Accounts payable (purchases)
4,600
Salaries payable
2,800
Required
1. By visual inspection, prepare the net cash flow from operating activities section of the Dauve Company’s 2007 statement of cash flows using the indirect method.
2. By visual inspection, prepare the net cash flow from operating activities section of the Dauve Company’s 2007 statement of cash flows using the direct method.
Fixed Asset Transactions The following is an Equipment account and its associated Accumulated Depreciation account:
Equipment
Beginning
Machine A
8,100
balance
$49,000
Machine C
25,000
Machine B
5,200
Ending
balance
$60,700
Accumulated Depreciation
Related to
Beginning
Machine A
6,300
balance
$29,000
Related to
Depreciation
Machine B
4,600
expense
12,000
Ending
balance
$30,100
Additional data:
1. Machine A was sold at a gain of $900
2. Machine B was sold for its scrap value of $200
3. Machine C was acquired during the year
Required
Analyze the two accounts and show, in journal entry form, the entries that would be made in preparation of the statement of cash flows to reflect all of the changes listed in the accounts.
Lessee and Lessor Accounting Issues Lessor Leasing Company agrees to provide Lessee Company with equipment under a noncancelable lease for five years. The equipment has a five year life, cost Lessor Company $30,000, and will have no residual value when the lease term ends. Lessee Company agrees to pay all executory costs ($500 per year) throughout the lease period. On January 1, 2007 the equipment is delivered. Lessor expects a 14% return. The five equal annual rents are payable in advance starting January 1, 2007.
Required
1. Assuming this is a direct financing lease for the lessor and a capital lease for the lessee, prepare a table summarizing the lease and interest payments suitable for use by either party.
2. On the assumption that both companies adjust and close books each December 31, prepare journal entries relating to the lease for both companies through December 31, 2007 based on data derived in the table. Assume that Lessee Company depreciates similar equipment by the straight line method.
Lessor Accounting with Receipts at End of Year The Berne Company, the lessor, enters into a lease with Fox Company to lease equipment to Fox beginning January 1, 2007. The lease terms, provisions, and related events are as follows:
1. The lease term is four years. The lease is noncancelable and requires annual rental payments of $50,000 to be made at the end of each year.
2. The cost of the equipment is $130,000. The equipment has an estimated life of four years and an estimated residual value at the end of the lease term of zero.
3. Fox agrees to pay all executory costs.
4. The interest rate implicit in the lease is 12%.
5. The initial direct costs are insignificant and assumed to be zero.
6. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Required
1. Assuming that the lease is a sales type lease from Berne’s point of view, calculate the selling price and assume that this is also the fair value.
2. Prepare a table summarizing the lease receipts and interest revenue earned by the lessor.
3. Prepare journal entries for Berne Company, the lessor, for the years 2007 and 2008.
Lessor Accounting with Receipts at Beginning of Year The Edom Company, the lessor, enters into a lease with Jebusite Company to lease equipment to Jebusite beginning January 1, 2007. The lease terms, provisions, and related events are as follows:
1. The lease term is five years. The lease is noncancelable and requires annual rental receipts of $100,000 to be made in advance at the beginning of each year.
2. The cost of the equipment is $313,000. The equipment has an estimated life of six years and, at the end of the lease term, has an unguaranteed residual value of $20,000 accruing to the benefit of Edom.
3. Jebusite agrees to pay all executory costs.
4. The interest rate implicit in the lease is 14%.
5. The initial direct costs are insignificant and assumed to be zero.
6. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Required
1. Assuming that the lease is a sales type lease from Edom’s point of view, calculate the selling price and assume that this is also the fair value.
2. Prepare a table summarizing the lease receipts and interest revenue earned by the lessor.
3. Prepare journal entries for Edom Company, the lessor, for the years 2007 and 2008.
Lessee and Lessor Accounting Issues The following information is available for a noncancelable lease of equipment that is classified as a sales type lease by the lessor and as a capital lease by the lessee. Assume that the lease payments are made at the beginning of each month, interest and straight line depreciation are recognized at the end of each month, and the residual value of the leased asset is zero at the end of a three year life.
Cost of equipment to lessor (Anson Company)
$50,000
Initial payment by lessee (Bullard Company) at inception of lease
2,000
Present value of remaining 35 payments of $2,000 each discounted at 1% per month
58,817
Required
1. Record the lease (including the initial receipt of $2,000) and the receipt of the second and third installments of $2,000 in the accounts of the Anson Company. Carry computations to the nearest dollar.
2. Record the lease (including the initial payment of $2,000), the payment of the second and third installments of $2,000, and monthly depreciation in the accounts of the Bullard Company. The lessee records the lease obligation at net present value. Carry computations to the nearest dollar.
Comparisons of Operating and Sales Type Leases On January 1, 2007 Nelson Company leases certain property to Queens Company at an annual rental of $60,000 payable in advance at the beginning of each year for eight years. The first payment is received immediately. The leased property, which is new, cost $275,000 and has an estimated economic life of eight years and no residual value. The interest rate implicit in the lease is 12% and the lease is noncancelable. Nelson
Company had no other costs associated with this lease. It should have accounted for this lease as a sales type lease but mistakenly treated it as an operating lease.
Required
Compute the effect on income before income taxes during the first year of the lease as a result of Nelson Company’s classification of this lease as an operating rather than a sales type lease.
Lease Income and Expense Reuben Company retires a machine from active use on January 2, 2007 for the express purpose of leasing it. The machine had a carrying value of $900,000 after 12 years of use and is expected to have 10 more years of economic life. The machine is depreciated on a straight line basis. On March 2, 2007 Reuben Company leases the machine to Owens Company for $180,000 a year for a five year period ending February 28, 2012. Under the provisions of the lease, Reuben Company incurs total maintenance and other related costs of $20,000 for the year ended December 31, 2007. Owens Company pays $180,000 to Reuben Company on March 2, 2007. The lease was properly classified as an operating lease.
Required
1. Compute the income before income taxes derived by Reuben Company from this lease for the calendar year ended December 31, 2007.
2. Compute the amount of rent expense incurred by Owens Company from this lease for the calendar year ended December 31, 2007.
Determining Type of Lease and Subsequent Accounting The Ravis Rent A Car Company leases a car to Ira Reem, an employee, on January 1, 2007. The term of the noncancelable lease is four years. The following information about the lease is provided:
1. Title to the car passes to Ira Reem on the termination of the lease with no additional payment required by the lessee.
2. The cost and fair value of the car to the Ravis Rent A Car Company is $8,400. The car has an economic life of five years.
3. The lease payments are determined at an amount that will yield Ravis Rent A Car Company a rate of return of 10% on its net investment.
4. Collectibility of the lease payments is reasonably assured.
5. There are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
6. Equal annual lease payments are due at the end of each year.
Required
1. What type of lease is this to Ravis Rent A Car Company? Why?
2. Prepare a table summarizing the lease receipts and interest revenue earned by the Ravis Rent A Car Company for the four year lease term.
3. Prepare the journal entries for 2007 and 2008 to record the lease agreement, the lease receipts, and the recognition of income on the books of Ravis Rent A Car Company.
Sale Leaseback On January 1, 2007 the Stimpson Company sells land to Barker Company for $2.5 million, then immediately leases it back. The relevant information is as follows:
1. The land was carried on Stimpson’s books at a value of $2 million.
2. The term of the noncancelable lease is 25 years.
3. The lease agreement requires equal rental payments of $357,007 at the end of each year.
4. The incremental borrowing rate of Stimpson Company is 15%. Stimpson is aware that Barker Company set the annual rental to ensure a rate of return of 14%.
5. The land has a fair value of $2.5 million on January 1, 2007.
6. Stimpson Company has the option of purchasing the land for $150 at the end of 25 years.
7. Stimpson Company pays all executory costs. These costs consist of insurance and property taxes amounting to $12,000 per year.
8. There are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor, and the collectibility of the rentals is reasonably assured.
Required
1. Prepare the journal entries for the seller lessee, Stimpson, for 2007 to reflect the sale and leaseback agreement. In calculating the present value of the lease payments, ignore the $150 bargain purchase option as immaterial.
2. Describe briefly the accounting treatment of the gain by the seller lessee.
Determining Type of Lease and Subsequent Accounting On January 1, 2007 the Alice Company leases electronic equipment for five years, agreeing to pay $70,000 annually at the beginning of each year under the noncancelable lease. Superior Electronics Company, the lessor, agrees to pay all executory costs, estimated to be $3,450 per year. The cost and also fair value of the equipment is $500,000. Its estimated life is 10 years. The estimated residual value at the end of five years is $200,000; at the end of 10 years, it is $5,000. There is no bargain purchase option in the lease nor any agreement to transfer ownership at the end of the lease to the lessee. The lessee’s incremental borrowing rate is 12%. During 2007 Superior Electronics pays property taxes of $650, maintenance costs of $1,600, and insurance of $1,200. There are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor. Straight line depreciation is considered the appropriate method by both companies.
Required
1. Identify the type of lease involved for Alice Company and Superior Electronics Company and give reasons for your classifications.
2. Prepare appropriate journal entries for 2007 for the lessee and lessor.
Determining Type of Lease and Subsequent Accounting On January 1, 2007 the Ballieu Company leases specialty equipment with an economic life of eight years to the Anderson Company. The lease contains the following terms and provisions:
The lease is noncancelable and has a term of eight years. The annual rentals are $35,000, payable at the beginning of each year. The interest rate implicit in the lease is 14%. The Anderson Company agrees to pay all executory costs and is given an option to buy the equipment for $1 at the end of the lease term, December 31, 2014.
The cost of the equipment to the lessor is $150,000 and the fair retail value is approximately $185,100. The lessor incurs no material initial direct costs. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor. The lessor estimates that the fair value is expected to be significantly greater than $1 at the end of the lease term.
The lessor calculates that the present value on January 1, 2007 of eight annual payments in advance of $35,000 discounted at 14% is $185,090.68 (the $1 purchase option is ignored as immaterial).
Required
1. Identify the classification of the lease transaction from the point of view of Ballieu Company. Give the reasons for your classification.
2. Prepare all the journal entries for Ballieu Company for the years 2007 and 2008.
3. Discuss the disclosure requirements for the lease transaction in the notes to the financial statements of the Ballieu Company.
Direct Financing Lease Calder Company, the lessor, enters into a lease with Darwin Company, the lessee, to provide heavy equipment beginning January 1, 2007. The lease terms, provisions, and related events are as follows:
The lease is noncancelable, has a term of eight years, and has no renewal or bargain purchase option. The annual rentals are $65,000, payable at the end of each year. The interest rate implicit in the lease is 15%. The Darwin Company agrees to pay all executory costs.
The cost and fair value of the equipment to the lessor is $308,021.03. The lessor incurs no material initial direct costs. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor. The lessor estimates that the fair value at the end of the lease term will be $50,000 and that the economic life of the equipment is nine years. The following present value factors are relevant:
Comprehensive Landlord Company and Tenant Company enter into a noncancelable, direct financing lease on January 1, 2007 for new heavy equipment that cost the Landlord Company $300,000 (useful life is six years with no residual value). The fair value is also $300,000. Landlord Company expects a 14% return over the six year period of the lease. Lease provisions require six equal annual amounts payable each January 1, beginning with January 1, 2007. The Tenant Company pays all executory costs. The heavy equipment reverts to the lessor at the termination of the lease. Assume that there are no initial direct costs. The collectibility of the rentals is reasonably assured and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Required
1. (a) Show how the Landlord Company should compute the annual rental amounts. (b) Discuss how the Tenant Company should compute the present value of the lease rights. What additional information would be required to make this computation?
2. Prepare a table summarizing the lease and interest receipts that would be suitable for the Landlord Company. Under what conditions would this table be suitable for the Tenant Company?
3. Assuming that the table prepared in Requirement 2 is suitable for both the lessee and the lessor, prepare the journal entries for both firms for the years 2007 and 2008. Use the straight line depreciation method for the leased equipment. The executory costs paid by the lessee in 2007 are: insurance, $700 and property taxes, $800; in 2008: insurance, $600 and property taxes, $750.
4. Show the items and amounts that would be reported on the comparative 2007 and 2008 income statements and ending balance sheets for both the lessor and the lessee. Include appropriate notes to the financial statements.
Direct Financing Lease with Unguaranteed Residual Value Lessor Company and Lessee Company enter into a fiveyear, noncancelable, direct financing lease on January 1, 2007 for a new computer that cost the Lessor Company $400,000 (useful life is five years). The fair value is also $400,000. Lessor Company expects a 12% return over the five year period of the lease. The computer will have an estimated unguaranteed residual value of $20,000 at the end of the fifth year of the lease. The lease provisions require five equal annual amounts, payable each January 1, beginning with January 1, 2007. The Lessee Company pays all executory costs. The computer reverts to the lessor at the termination of the lease. Assume there are no initial direct costs, no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor, and that the collectibility of rentals is reasonably assured.
Required
1. Show how the Lessor Company should compute the annual rental amounts.
2. Prepare a table summarizing the lease and interest receipts that would be suitable for the Lessor Company.
3. Prepare the journal entries for Lessor Company for the years 2007, 2008, and 2009.
Sales Type Lease with Receipts at End of Year The Lamplighter Company, the lessor, agrees to lease equipment to Tilson Company, the lessee, beginning January 1, 2007. The lease terms, provisions, and related events are as follows:
The lease is noncancelable and has a term of eight years. The annual rentals are $32,000, payable at the end of each year. The Tilson Company agrees to pay all executory costs. The interest rate implicit in the lease is 14%.
The cost of the equipment to the lessor is $110,000. The lessor incurs no material initial direct costs. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor. The lessor estimates that the fair value at the end of the lease term will be $20,000 and that the economic life of the equipment is nine years.
Required
1. Calculate the selling price implied by the lease and prepare a table summarizing the lease receipts and interest revenue earned by the lessor for this sales type lease.
2. State why this is a sales type lease.
3. Prepare journal entries for Lamplighter Company for the years 2007, 2008, and 2010.
4. Prepare partial balance sheets for Lamplighter Company for December 31, 2007 and December 31, 2008, showing how the accounts should be disclosed.
Various Lease Issues for Lessor and Lessee Lessee Company leases heavy equipment on January 1, 2007 under a capital lease from Lessor Company with the following lease provisions:
The lease is noncancelable and has a term of 10 years. The lease does not contain a renewal or bargain purchase option.
The annual rentals are $27,653.77, payable at the beginning of each year. The Lessee Company agrees to pay all executor costs. The interest rate implicit in the lease is 12%, which is known by Lessee Company. The residual value of the property at the end of 10 years is estimated to be zero.
The cost and fair value of the equipment to the lessor is $175,000. The lessor incurs no material initial direct costs. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Lessee’s incremental borrowing rate is 15% and it uses the straight line method to record depreciation on similar equipment.
In 2007 the lessee pays insurance of $1,900, property taxes of $1,300, and maintenance of $600; and in 2008 the lessee pays insurance of $1,800, property taxes of $1,200, and maintenance of $500.
Required
1. Identify the type of lease involved for the lessee and the lessor, and give reasons for your classifications.
2. Prepare all the journal entries for both the lessee and the lessor for 2007 and 2008.
Various Lease Issues for Lessor and Lessee Benjamin Company has rented new equipment to Murrell Builders that cost $50,000. This equipment has a life of 4 years and no residual value at the end of that time. The lease is noncancelable and is signed on January 1, 2007. Murrell Builders assumes all normal risks and executory costs of ownership. The title to the property is transferred to Murrell Builders at the end of the four years. The Benjamin Company computes the rents on the basis of a 14% return. The lessee’s incremental borrowing rate is also 14%. The collectibility of rentals is reasonably assured and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Required
1. Assuming the annual rentals are payable at the end of each year, complete the following:
a. Lessor computation of periodic rental receipts.
b. Lessee computation of the present value of the special property rights under the lease.
c. A table summarizing lease and interest payments that would be suitable for both lessor and lessee.
2. Assuming the annual rentals are payable at the start of each year, compute the same three items listed in Requirement 1.
3. Prepare the journal entries for the lessor and lessee for Requirement 2 throughout 2007. Use the straight line depreciation method.
4. Indicate the asset and liability amounts that the lessor and lessee would report on their balance sheets at December 31, 2007 under Requirement 2.
Initial Direct Costs and Related Issues On January 1, 2007 the Amity Company leases a crane to Baltimore Company. The lease contains the following terms and provisions:
The lease is noncancelable and has a term of 10 years. The lease does not contain a renewal or bargain purchase option. The annual rentals are $4,000, payable at the beginning of each year. The Baltimore Company agrees to pay all executory costs.
The cost and fair value of the equipment to the lessor is $24,913.94. The lessor incurs initial direct costs of $1,364.98. The interest rate implicit in the lease is 12.5%. After including the initial direct costs, the implicit rate is 12%. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor. The lessor estimates that the fair value at the end of the lease term will be $3,000 and that the economic life of the crane is 12 years.
Required
1. What are initial direct costs? Discuss the accounting treatment of these costs. Are they treated in the same manner for (a) an operating lease, (b) a sales type lease, and (c) a direct financing lease?
2. From the lessor’s viewpoint, is the preceding lease a sales type or direct financing lease? Give reasons to support your conclusion.
3. Prepare the journal entries for Amity Company for 2007.
Accounting for Leases by Lessee and Lessor Scuppermong Farms, the lessee, and Tyrrell Equipment, the lessor, sign a lease agreement on January 1, 2007 that provides for Scuppermong Farms to lease a cultivator from Tyrrell Equipment. The lease terms, provisions, and other related events are as follows: The lease is noncancelable and has a term of six years. The annual rentals are $56,100, payable at the beginning of each year. Tyrrell Equipment agrees to pay all executory costs, which are expected to be $1,100 annually, including property taxes of $500, insurance of $350, and maintenance of $250. Scuppermong Farms guarantees a residual value of $60,000 at the end of six years. The interest rate implicit in the lease is 14%, which is known by Scuppermong. Scuppermong Farms’ incremental borrowing rate is 15% and it uses the sum of the years’ digits method to record depreciation on similar equipment.
The cost and fair value of the cultivator to Tyrrell Equipment is $271,154.68. The lessor incurs no material initial direct costs. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Required
1. Identify the type of lease involved for both Scuppermong Farms and Tyrrell Equipment, and give reasons for your classifications.
2. Prepare the journal entries for both Scuppermong Farms and Tyrrell Equipment for 2007. (Hint: Scuppermong Farms should expense executory costs when annual payments are made to Tyrrell.)
Lessor’s Income Statement The Dahlia Company has two divisions, the Astor Division which started operating in 2005, and the Tulip Division which started operating in 2006. The Astor Division leases medical equipment to hospitals. All of its leases are appropriately recorded as operating leases for accounting purposes, except for a major lease entered into on January 1, 2007, which is appropriately recorded as a sale type lease for accounting purposes.
Under long term contracts, Tulip constructs wastewater treatment plants for small communities throughout the United States. All of its long term contracts are appropriately recorded for accounting purposes under the percentage of completion method, except for two contracts which are appropriately recorded for accounting purposes under the completed contract method because of a lack of dependable estimates at the time of entering into these contracts. For the year ended December 31, 2007 the following information is available:
Astor Division:
Operating Leases. Revenues from operating leases were $800,000. The cost of the related leased equipment is $3,700,000, which is being depreciated on a straight line basis over a five year period. The estimated residual value of the leased equipment at the end of the five year period is $200,000. No leased equipment was acquired or constructed in 2007.
Maintenance and other related costs and the costs of any other services rendered under the provisions of the leases were $70,000 in 2007.
Lease Recorded as a Sale. The January 1, 2007 lease recorded as a sale is for a six year period expiring December 31, 2012. The cost of this leased equipment is $3,500,000. This leased equipment is estimated to have no residual value at the end of the lease. Maintenance and other related costs, and the costs of any other services rendered under the provisions of this lease, all of which were paid by the lessee, were $120,000 in 2007. Equal annual payments under the lease are $750,000 and are due on January 1. The first payment was made on January 1, 2007. The present value for an annuity of $1 in advance at 10% is as follows:
Number of Periods
Present Value
5
4.17
6
4.791
7
5.355
Tulip Division:
Long Term Contracts: Percentage of Completion Method. Long term contracts recorded under the percentage of completion method aggregate $6,000,000. Costs incurred on these contracts were $1,500,000 in 2006 and $3,000,000 in 2007.
Estimated additional costs of $1,000,000 are required to complete these contracts. Revenues of $1,740,000 were recognized in 2006 and a total of $4,800,000 has been billed, of which $4,600,000 has been collected. No long term contracts recorded under the percentage of completion method were completed in 2007.
Long Term Contracts: Completed Contract Method. The two long term contracts recorded under the completed contract method were started in 2006. One is a $5,000,000 contract. Costs incurred were $1,400,000 in 2006 and $1,600,000 in 2007. A total of $3,100,000 has been billed and $2,800,000 collected. Although it is difficult to estimate the additional costs required to complete this contract, indications are that this contract will prove to be profitable.
The second contract is for $4,000,000. Costs incurred were $1,200,000 in 2006 and $2,600,000 in 2007. A total of $3,300,000 has been billed and $2,900,000 collected. Although it is difficult to estimate the additional costs required to complete this contract, indications are that there will be a loss of approximately $550,000. Dahlia Company:
Selling, general, and administrative expenses exclusive of amounts specified earlier were $600,000 in 2007. Other income exclusive of amounts specified earlier was $50,000 in 2007.
Required
Prepare an income statement of the Dahlia Company for the year ended December 31, 2007, stopping at income (loss) before income taxes. Show supporting schedules and computations in good form. Ignore income tax and deferred tax considerations. Notes are not required.
Determining Types of Leases Rigdon Company leases 50 acres of land to Christmas Tree International on January 1, 2007. The provisions of the lease are as follows:
The lease is noncancelable and has a term of 25 years. The annual rentals are $10,000, payable at the end of each year. The lease contains no bargain purchase option and the land reverts to Rigdon at the end of the lease. The incremental borrowing rate of Christmas Tree International is 12%. The cost of the land to Rigdon Company is $60,000. The fair value is $78,431.39. The lessor incurs no material initial direct costs. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Required
1. Determine the classification of this lease for both the lessor and the lessee.
2. Why are the final two criteria (lease term 75% of economic life and present value of lease payments 90% of fair value) not applicable when classifying a lease of land?
Additional Pension Liability In the Fisk Company’s negotiations with its employees’ union on January 1, 2007, the company agreed to an amendment which substantially increased the employee benefits based on services rendered in prior periods. This resulted in an $80,000 unrecognized prior service cost that increased both the projected benefit obligation and the accumulated benefit obligation of the company. Due to financial constraints the company decided not to fund the total increase in its pension obligation at that time.
Prior to 2007 it had been the company’s policy to fund enough of its pension expense each year so that the fair value of the plan assets at the end of the year was greater than the year end accumulated benefit obligation. As a result the company reported a prepaid/accrued pension cost liability of $40,000 on its December 31, 2006 balance sheet.
The company appropriately amortized the unrecognized prior service cost as a component of pension expense in 2007 and 2008. The resulting pension and other information for 2007 and 2008 are as follows:
Year
Pension Expense
Company Contributiona
Accumulated Benefit Obligationb
Fair Value of Plan Assetsb
2007
$137,000
$125,000
$562,000
$500,000
2008
145,000
160,000
682,000
637,000
a. Funded December 31
b. At year end
Required
1. Prepare the December 31, 2007 journal entries related to the Fisk Company’s pension plan.
2. List the amounts of any assets and liabilities to be reported on the company’s December 31, 2007 balance sheet.
3. Prepare the December 31, 2008 journal entries related to the Fisk Company’s pension plan. 4. List the amounts of any assets and liabilities to be reported on the company’s December 31, 2008 balance sheet.
Determination of Pension Plan Amounts Various pension plan information of the Kerem Company for 2007 and 2008 is as follows:
2007
2008
Service cost
$100,000
(j)
Interest cost on projected benefit obligation
54,000
(g)
Accumulated benefit obligation, 12/31
(f)
(l)
Discount rate
9%
9%
Amortization of unrecognized prior service cost
4,000
4,000
Plan assets (fair value), 1/1*
500,000
615,000
Projected benefit obligation, 1/1
(a)
720,000
Deferred pension cost, 12/31
3,000
(k)
Expected long term rate of return on plan assets
(b)
11%
Amortization of unrecognized net loss
(d)
700
Additional pension liability, 12/31
3,000
5,000
Accrued pension cost (liability), 12/31
17,000
26,000
Average service life of employees
10 years
10 years
Pension expense
(e)
110,850
Cumulative unrecognized net loss, 1/1
68,000
(i)
Expected return on plan assets
50,000
(h)
Corridor
(c)
72,000
* 1/1/2009: $740,000
Required
Fill in the blanks lettered (a) through (l). All the necessary information is listed. It is not necessary to calculate your answers in alphabetical order.
Comprehensive The Jay Company has had a defined benefit pension plan for several years. At the beginning of 2007 the company amended the plan; this amendment provided for increased benefits to employees based on services rendered in prior periods. The unrecognized prior service cost related to this amendment totaled $88,000; as a result, both the projected and accumulated benefit obligation increased.
The company decided not to fund the increased obligation at the time of the amendment, but rather to increase its periodic year end contributions to the pension plan. In the past the company has never had an additional pension liability at year end.
The following information for 2007 has been provided by the company’s actuary and funding agency, and obtained from a review of its accounting records:
Accumulated benefit obligation (12/31)
$740,000
Service cost
183,000
Discount rate
9%
Cumulative unrecognized net loss (1/1)
64,500
Company contribution to pension plan (12/31)
200,000
Projected benefit obligation (1/1)*
513,000
Plan assets, fair value (12/31)
728,000
Prepaid pension cost (asset) (1/1)
31,500
Expected (and actual) return on plan assets
48,000
Plan assets, fair value (1/1)
480,000
*Before the increase of $88,000 due to the unrecognized prior service cost from the amendment The company decided to amortize the unrecognized prior service cost and any excess cumulative unrecognized net loss by the straight line method over the average remaining service life of the participating employees. It has developed the following schedule concerning these 50 employees:
Employee Numbers
Expected Years of Future Service*
Employee Numbers
Expected Years of Future Service*
1–5
2
26–30
12
6–10
4
31–35
14
11–15
6
36–40
16
16–20
8
41–45
18
21–25
10
46–50
20
*Per employee
Required
1. Compute the average remaining service life and prepare a schedule to determine the amortization of the unrecognized prior service cost of the Jay Company for 2007.
2. Prepare a schedule to compute the net gain or loss component of pension expense for 2007.
3. Prepare a schedule to compute the pension expense for 2007.
4. Prepare a schedule to determine the additional pension liability (if any) at the end of 2007.
5. Prepare all the December 31, 2007 journal entries related to the pension plan.
Comprehensive The TAN Company has a defined benefit pension plan for its employees. The plan has been in existence for several years. During 2006, for the first time, the company experienced a difference between its expected and actual projected benefit obligation. This resulted in a cumulative unrecognized loss of $29,000 at the beginning of 2007, which did not change during 2007. The company amortizes any excess unrecognized loss by the straight line method over the average remaining service life of its active participating employees. It has developed the following schedule concerning these 40 employees:
Employee
Expected Years of
Employee
Expected Years of
Numbers
Future Service*
Numbers
Future Service*
1–5
3
21–25
15
6–10
6
26–30
18
11–15
9
31–35
21
16–20
12
36–40
24
*Per employee
The company makes its contribution to the pension plan at the end of each year. However, it has not always funded the entire pension expense in a given year. As a result, it had an accrued pension cost liability of $36,000 on December 31, 2006.
Furthermore, the company’s accumulated benefit obligation exceeded the fair value of the plan assets at the end of 2006, so that the company also had an additional pension liability (and excess of additional pension liability over unrecognized prior service cost) of $2,300 on December 31, 2006.
In addition to the preceding information, the following set of facts for 2007 and 2008 has been assembled, based on information provided by the company’s actuary and funding agency, and obtained from its accounting records:
2007
2008
Plan assets, fair value (12/31)
$620,500
$859,550
Cumulative unrecognized net loss (1/1)
29,000
29,000
Expected (and actual) return on plan assets
40,500
62,050
Company contribution to pension plan (12/31)
175,000
177,000
Projected benefit obligation (1/1)
470,000
686,000
Discount rate
10%
10%
Accumulated benefit obligation (12/31)
660,000
903,000
Service cost
169,000
175,000
Plan assets, fair value (1/1)
405,000
620,500
Required
1. Calculate the average remaining service life of the TAN Company’s employees. Compute to one decimal place.
2. Prepare a schedule to compute the net gain or loss component of pension expense for 2007 and 2008. For simplicity, assume the average remaining life calculated in Requirement 1 is applicable to both years.
3. Prepare a schedule to compute the pension expense for 2007 and 2008.
4. Prepare a schedule to determine the adjustment (if any) to additional pension liability required at the end of 2007 and 2008.
5. Prepare all the December 31, 2007 and December 31, 2008 journal entries related to the pension plan.
Accounting for an OPEB Plan On January 1, 2007 the Vasby Software Company adopted a healthcare plan for its retired employees. To determine eligibility for benefits, the company retroactively gives credit to the date of hire for each employee. The service cost for 2007 is $8,000. The plan is not funded, and the discount rate is 10%. All employees were hired at age 28 and become eligible for full benefits at age 58. Employee C was paid $7,000 for postretirement healthcare benefits in 2007. On December 31, 2007 the accumulated postretirement benefit obligation for Employees B and C were $77,000 and $41,500, respectively. Additional information on January 1, 2007 is as follows:
Employee
Status
Age
Expected Retirement
Age
Accumulated Postretirement
Benefit Obligation
A Employee
31
65
$14,000
B Employee
55
65
70,000
C Retired
67
—
45,000
$129,000
Required
1. Compute the OPEB expense for 2007 if the company uses the average remaining service life to amortize the unrecognized prior service cost.
2. Prepare all the required journal entries for 2007 if the plan is not funded.
Pension Plan Present Value Computations On January 1, 2007 the Cromwell Company adopted a defined benefit plan for its employees. All the employees are the same age, retire at the same time, and have the same life expectancy after retirement. The following are the relevant facts concerning the pension plan factors and the employee characteristics:
Pension Plan Factors
Benefit formula
Average of last four years’ salary X Number of years of service X 0.025
Expected average of last four years’ salary
$80,000 per employee
Annual pension benefit earned each year of service by each employee
$80,000 X 0.025 $2,000*
Date of computation of pension expense and pension funding
31 Dec
Amount funded each year
Equal to annual service cost
Discount rate
10%
Expected long term (and actual) rate of return on plan assets
9%
Employee Characteristics
Number of employees
60
Age of employees
35
Years to retirement (at end of 2007)
25
Years of life expectancy after date of retirement
14
For the years 2007 through 2011 the company experienced no net gain or loss in regard to the pension plan. On January 1, 2010, however, the company agreed to an amendment of the pension plan. This amendment changed the factor in the pension benefit formula from 0.025 to 0.03. This amendment was made retroactive to the adoption of the plan. At the end of years 2007 through 2011 the company did not have an additional pension liability.
Required
1. Prepare a schedule to compute the Cromwell Company’s pension expense for 2007 through 2011. Round to the nearest dollar.
2. Prepare the year end journal entries to record the company’s pension expense for 2007 through 2011.
3. Determine the balance in the Prepaid/Accrued Pension Cost account on December 31, 2011. Indicate whether it is an asset or liability.
Pension Cost Components Carson Company sponsors a single employer defined benefit pension plan. The plan provides that pension benefits are determined by age, years of service, and compensation. Among the components that should be included in the net pension cost recognized for a period are service cost, interest cost, and expected return on plan assets.
Required
1. What two accounting issues result from the nature of the defined benefit pension plan? Why do these issues arise?
2. Explain how Carson should determine the service cost component of the net pension cost.
3. Explain how Carson should determine the interest cost component of the net pension cost.
4. Explain how Carson should determine the expected return on plan assets component of the net pension cost.
Pension Issues The MacAdams Company had engaged in large amounts of R&D to develop a new product that would put the company ahead of its Japanese competition. As a result, the company’s profits were severely reduced and the president was concerned about the possibility of a takeover by a European competitor. The president was discussing the situation with the controller and said, “Your accounting principles make me so mad. Here we are working hard to develop a product to beat the rest of the world and you won’t let me treat any of those costs as an asset.” The controller replied, “I understand your frustration.
And please remember they are not ‘my’ principles.”“I know,” responded the president. “Do you have any suggestions?”
“Well,” the controller replied, “we can’t adjust R&D expense, but we can reduce our pension expense. One easy way to increase our profits would be for the board of directors to vote to increase the discount rate used for computing the present values and to increase the expected rate of return on plan assets. Both of those would have the effect of reducing the pension expense.”
“Great idea. I will have to remember that when it is time for the year end bonuses.”
Required
Write a short report evaluating the controller’s suggestion.
OPEB Issues – “Will it cost your company your company? Ready for one of the most difficult challenges ever to confront corporate America? One that is estimated to cost up to $400 billion. New FASB regulations will force companies to measure and post as a debit their health expense obligation to current and future retirees. . . . We’ll help you minimize the financial impact of these regulations and still enable you to remain responsive to the benefit needs of employees.” (Excerpts from an advertisement by CIGNA, a large insurance company.)
“Forget about retiring with all expenses paid health care from your employer. About 65% of U.S. companies have reduced benefits. Some have asked retirees to pay more of the costs, while others have eliminated the plans altogether. Blame soaring medical expenses and a new accounting rule that requires companies to post long term retiree medical benefits as liabilities on their balance sheets.” (Adapted from Business Week, August 24, 1992, p. 39.)
Required
1. Critically evaluate the content of the advertisement.
2. Explain why companies may have reduced benefits when they adopted FASB Statement No. 106.
OPEBs and Deferred Income Taxes The following information is for the Dermer Company”s OPEB plan, which it adopted on January 1, 2007:
Service cost, 2007 $100,000
Interest cost, 2007 20,000
Unrecognized prior service cost, 1/1/07 300,000
Benefits paid to employees, 2007 18,000
Pretax accounting income and taxable income for 2007 before any deductions for OPEB costs 500,000
Average remaining service period 15 years
Enacted tax rate for 2007 30%
Enacted tax rate for 2008 and beyond 35%
Any deferred tax assets are more likely than not to be realized
Required
1. a. Prepare the journal entries to record the OPEB expense and payments for 2007.
b. Prepare the income tax journal entry for 2007.
2. a. Assume instead that Dermer had an existing OPEB plan on January 1, 1996, and that the $300,000 was the accumulated postretirement benefit obligation at the date of adoption of FASB Statement No. 106, instead of the unrecognized prior service cost. Prepare the journal entries to record the OPEB expense and payments for 2007 if the company uses the maximum period for the amortization of the transition liability and adopted the Statement on January 1, 1996.
b. Prepare the income tax journal entry for 2007.
c. What is the balance of the deferred tax asset at December 31, 2007, if it is assumed that in each year since 1996 pretax accounting income and taxable income before any deductions for OPEB costs have been $500,000? Also assume that each year, the OPEB expense and payments were the same as in 2007.
3. a. Assume instead that the $300,000 accumulated postretirement benefit obligation was recognized as a cumulative effect. Prepare the journal entries to record the activities related to the OPEB for 2007 if the Statement was adopted on January 1, 1996.
b. Prepare the income tax journal entry for 2007.
c. What is the balance of the deferred tax asset at December 31, 2007, if it is assumed that in each year since 1996 pretax accounting income and taxable income before any deductions for OPEB costs have been $500,000? Also assume that each year the OPEB expense (before including the cumulative effect adjustment) and payments were the same as in 2007.
Analyzing Coca Cola’s Postemployment Benefit Disclosures Refer to the financial statements and related notes of The Coca Cola Company in Appendix A of this book. Answer each of the questions for (a) the company’s pension benefits and (b) the company’s other benefits.
Required
1. How much is the company’s expense in 2004?
2. How much are the company’s actual and expected return on plan assets?
3. How much is the benefit obligation at December 31, 2004?
4. Is the company in a net asset or liability position at December 31, 2004? Is this net amount greater or less than the net asset or liability reported on the balance sheet?
5. Conceptually, what were the effects of the decrease in the discount rate in 2004 on the amounts disclosed by the company (no calculations are required)?
Ethics and Pensions You are an accountant for the Lanthier Company. The president of the company calls you into the office and says, “We have to find a way to reduce our pension costs. They are too high and they are making us uncompetitive against our foreign competitors whose employees have state funded pensions. I think we might have to abandon our defined benefit plan, but I know the employees would not be happy about that. I was also thinking that perhaps we could raise the discount rate we use up to the high end of the acceptable range. I also think we need a trustee who will pursue a more aggressive investment strategy for the pension funds; that way we can raise our expected rate of return.”
Required
From financial reporting and ethical perspectives, discuss the issues raised by this situation.
East Company leased a new machine from North Company on May 1, 2007 under a lease with the following information:
Lease term
10 years
Annual rental payable at beginning of each lease year
$40,000
Useful life of machine
12 years
Implicit interest rate
14%
Present value factor for an annuity of 1 in advance for 10 periods at 14%
5.95
Present value factor for 1 for 10 periods at 14%
0.27
East has the option to purchase the machine on May 1, 2017 by paying $50,000, which approximates the expected fair value of the machine on the option exercise date. On May 1, 2007 East should record a capitalized lease asset of
For a lease that transfers ownership of the property to the lessee by the end of the lease term, the lessee should
a. Record the minimum lease payment as an expense
b. Amortize the capitalizable cost of the property using the interest method
c. Depreciate the capitalizable cost of the property in a manner consistent with the lessee’s normal depreciation policy for owned assets, except that the period of depreciation should be the lease term
d. Depreciate the capitalizable cost of the property in a manner consistent with the lessee’s normal depreciation policy for owned assets Items 4 and 5 are based on the following information:
Fox Company, a dealer in machinery and equipment, leased equipment to Tiger, Inc. on July 1, 2007. The lease is appropriately accounted for as a sale by Fox and as a purchase by Tiger. The lease is for a 10 year period (the useful life of the asset) expiring June 30, 2017. The first of 10 equal annual payments of $500,000 was made on July 1, 2007. Fox had purchased the equipment for $2,675,000 on January 1, 2007 and established a list selling price of $3,375,000 on the equipment. Assume that the present value at July 1, 2007 of the rent payments over the lease term, discounted at 12% (the appropriate interest rate), was $3,165,000.
On January 2, 2007, Lafayette Machine Shops, Inc. signed a 10 year noncancelable lease for a heavy duty drill press, stipulating annual payments of $15,000 starting at the end of the first year, with title passing to Lafayette at the expiration of the lease. Lafayette treated this transaction as a capital lease. The drill press has an estimated useful life of 15 years, with no salvage value. Lafayette uses straight line depreciation for all of its fixed assets. Aggregate lease payments were determined to have a present value of $92,170, based on implicit interest of 10%. For 2007 Lafayette should record
On August 1, 2007 Kern Company leased a machine to Day Company for a six year period requiring payments of $10,000 at the beginning of each year. The machine cost $48,000, which is the fair value at the lease date, and has a useful life of eight years with no residual value. Kern’s implicit interest rate is 10% and present value factors are as follows:
Present value for an annuity due of $1 at 10% for six periods
4.791
Present value for an annuity due of $1 at 10% for eight periods
5.868
Kern appropriately recorded the lease as a direct financing lease. At the inception of the lease, the gross lease receivables account balance should be
Determining Type of Lease and Subsequent Accounting On January 1, 2007 the Caswell Company signs a 10 year cancelable (at the option of either party) agreement to lease a storage building from the Wake Company. The following information pertains to this lease agreement:
1. The agreement requires rental payments of $100,000 at the end of each year.
2. The cost and fair value of the building on January 1, 2007 is $2 million.
3. The building has an estimated economic life of 50 years, with no residual value. The Caswell Company depreciates similar buildings according to the straight line method.
4. The lease does not contain a renewable option clause. At the termination of the lease, the building reverts to the lessor.
5. Caswell’s incremental borrowing rate is 14% per year. The Wake Company set the annual rental to ensure a 16% rate of return (the loss in service value anticipated for the term of the lease).
6. Executory costs of $7,000 annually, related to taxes on the property, are paid by Wake Company.
Required
1. Determine what type of lease this is for the lessee.
2. Prepare appropriate journal entries on the lessee’s books to reflect the signing of the lease agreement and to record the payments and expenses related to this lease for the years 2007 and 2008.
Lessee Accounting with Payments Made at Beginning of Year The Adden Company signs a lease agreement dated January 1, 2007 that provides for it to lease heavy equipment from the Scott Rental Company beginning January 1, 2007. The lease terms, provisions, and related events are as follows:
1. The lease term is four years. The lease is noncancelable and requires annual rental payments of $20,000 each to be paid in advance at the beginning of each year.
2. The cost, and also fair value, of the heavy equipment to Scott at the inception of the lease is $68,036.62. The equipment has an estimated life of four years and has a zero estimated residual value at the end of this time.
3. Adden Company agrees to pay all executory costs.
4. The lease contains no renewal or bargain purchase option.
5. Scott’s interest rate implicit in the lease is 12%. Adden Company is aware of this rate, which is equal to its borrowing rate.
6. Adden Company uses the straight line method to record depreciation on similar equipment.
7. Executory costs paid at the end of the year by Adden Company are:
2007
2008
Insurance, $1,500
Insurance, $1,300
Property taxes, $6,000
Property taxes, $5,500
Required
1. Determine what type of lease this is for Adden Company.
2. Prepare a table summarizing the lease payments and interest expense for Adden Company.
3. Prepare journal entries for Adden Company for the years 2007 and 2008.
Lessor Accounting Issues The Rexon Company leases equipment to Ten Care Company beginning January 1, 2007. The lease terms, provisions, and related events are as follows:
1. The lease term is eight years. The lease is noncancelable and requires equal rental payments to be made at the end of each year.
2. The cost, and also fair value, of the equipment is $500,000. The equipment has an estimated life of eight years and has a zero estimated value at the end of that time.
3. Ten Care Company agrees to pay all executory costs.
4. The lease contains no renewal or bargain purchase option.
5. The interest rate implicit in the lease is 14%.
6. The initial direct costs are insignificant and assumed to be zero.
7. The collectibility of the rentals is reasonably assured, and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred by the lessor.
Required
1. Assuming that the lease is a direct financing lease from Rexon’s point of view, calculate the amount of the equal rental receipts.
2. Prepare a table summarizing the lease receipts and interest revenue earned by Rexon.
3. Prepare journal entries for Rexon for the years 2007 and 2008.
Lessor Accounting Issues Ramallah Company leases heavy equipment to Terrell, Inc. on January 2, 2007 on the following terms:
1. Forty eight lease rentals of $1,600 at the end of each month are to be paid by Terrell, Inc., and the lease is noncancelable.
2. The cost of the heavy equipment to Ramallah Company was $60,758.
3. Ramallah Company will account for this lease using the direct financing method. The difference between total rental receipts ($1,600 X 48 X $76,800) and the cost of the equipment ($60,758) was computed to yield a return of 1% per month over the lease term.
Required
Prepare journal entries for Ramallah Company (the lessor) to record the lease contract and the receipt of the first lease rental on January 31, 2007. Record the part of the $16,042 Unearned Interest that was earned during the first month and carry calculations to the nearest dollar.
Inter period Tax Allocation Chris Green, CPA, is auditing Rayne Co.’s 2007 financial statements. For the year ended December 31, 2007, Rayne is applying Statement of Financial Accounting Standards No. 109, “Accounting for Income Taxes.” Rayne’s controller, Dunn, has prepared a schedule of all differences between financial statement and income tax return income. Dunn believes that as a result of pending legislation, the enacted tax rate at December 31, 2007 will be increased for 2008. Dunn is uncertain which differences to include and which rates to apply in computing deferred taxes under FASB 109. Dunn has requested an overview of FASB 109 from Green.
Required
Prepare a brief memo to Dunn from Green that identifies the objectives of accounting for income taxes, defines temporary differences, explains how to measure deferred tax assets and liabilities, and explains how to measure deferred income tax expense or benefit.
Ethics and Deferred Taxes It is the end of 2008, and the auditing firm for which you work is auditing the Weiss Company for the first time. Prior to 2008, Weiss was audited by another firm. A substantial amount of Weiss Company’s revenues for 2007 came from installment sales.
Weiss has considerable property, plant, and equipment. It also has a large amount of debt outstanding, and one of the debt covenants is that the company maintain a 2.00 current ratio.
You have been reviewing the deferred taxes of Weiss at the end of 2008. On its preliminary ending balance sheet for 2008, Weiss has included a noncurrent deferred tax liability of $45,000. On its ending 2007 balance sheet, Weiss had also reported a noncurrent deferred tax liability. Upon examining the calculations supporting the $45,000, you find that one third relates to the receivables from the installment sales and two thirds relates to the depreciation on the property, plant, and equipment. Nearly all of the 2007 deferred tax liability related to the latter.
Based on your analysis, you raise the issue with Weiss Company’s controller about the possibility of reclassifying $15,000 of the deferred taxes as a current liability. The controller responds, “We have always listed our deferred taxes as a noncurrent liability. This was okay with our previous auditor. It just isn’t worth the hassle of splitting the amount into current and noncurrent portions. It is clearly not material, since our total equity is over $400,000. Besides, if we did that it would bring our current ratio down to 1.95 and we would have our creditors on our backs. Everyone knows that deferred taxes are never really paid, so that is a good reason for not including the amount in our current liabilities.”
Required
From financial reporting and ethical perspectives, prepare a response to Weiss Company’s controller.
The actuarial present value of all the benefits attributed by the pension benefit formula to employee service rendered before a specified date based on expected future compensation levels is the
a. Projected benefit obligation
b. Prior service cost
c. Service cost
d. Accumulated benefit obligation
Items 2, 3, and 4 are based on the following information:
Spath Company adopted a noncontributory defined benefit pension plan on January 1, 2007. Spath Company uses the benefit/years of service method, which results in the following information:
2007
2008
Service cost
$300,000
$450,000
Amount funded
240,000
390,000
Discount rate
10%
10%
Expected rate of return
10%
10%
The fair value of the plan assets at the end of each year exceeded the accumulated benefit obligation.
The McCollum Company amended its noncontributory defined benefit pension plan at the beginning of 2004. The unrecognized prior service cost related to this amendment amounts to $240,000. Information regarding the four participating employees is as follows:
Employee
Expected to Retire After
A
Year 1
B
Year 2
C
Year 4
D
Year 5
Using the straight line method, what is the amount of unrecognized prior service cost to be amortized in 2007?
Pension Expense On December 31, 2007 the Robey Company accumulated the following information for 2007 in regard to its defined benefit pension plan:
Service cost
$105,000
Interest cost on projected benefit obligation
12,000
Expected return on plan assets
11,000
Amortization of unrecognized prior service cost
3,000
Amortization of unrecognized net gain
1,000
On its December 31, 2006 balance sheet, the company had reported a prepaid/accrued pension cost liability of $14,000.
Required
1. Compute the amount of Robey Company’s pension expense for 2007.
2. Prepare the journal entry to record Robey’s 2007 pension expense if it funds the pension plan in the amount of: (a) $108,000, (b) $100,000, and (c) $112,000.
Interest Cost and Return on Assets On December 31, 2007 the Palmer Company determined that the 2007 service cost on its defined benefit pension plan was $120,000. At the beginning of 2007 Palmer Company had pension plan assets of $520,000 and a projected benefit obligation of $600,000. Its discount rate (and expected long term rate of return on plan assets) for 2007 was 10%. There are no other components of Palmer Company’s pension expense; the company had a prepaid accrued pension cost liability at the end of 2006.
Required
1. Compute the amount of Palmer Company’s pension expense for 2007.
2. Prepare the journal entry to record Palmer’s 2007 pension expense if it funds the pension plan in the amount of: (a) $128,000, and (b) $120,000.
Pension Expense Different Than Funding: Multiple Years Baron Company adopted a defined benefit pension plan on January 1, 2006. The following information pertains to the pension plan for 2007 and 2008:
2007
2008
Service cost
$160,000
$172,000
Projected benefit obligation (1/1)
120,000
289,600
Plan assets (1/1)
120,000
279,600
Company contribution (funded 12/31)
150,000
160,000
Discount rate
8%
8%
Expected long term (and actual) rate of return on plan assets
8%
8%
There are no other components of Baron Company’s pension expense.
Required
1. Compute the amount of Baron Company’s pension expense for 2007 and 2008.
2. Prepare the journal entries to record the pension expense for 2007 and 2008.
Unrecognized Prior Service Cost On January 1, 2007 the Smith Company adopted a defined benefit pension plan. At that time the company awarded retroactive benefits to its employees, resulting in an unrecognized prior service cost that created a projected benefit obligation of $1,250,000 on that date. The company decided to amortize the unrecognized prior service cost by the straight line method over the 20 year average remaining service life of its active participating employees.
The company’s actuary has also provided the following additional information for 2007 and 2008: (1) Service cost: 2007, $147,000; 2008, $153,000; (2) expected return on plan assets: 2008, $34,000; and (3) projected benefit obligation:
1/1/2008, $1,522,000. The discount rate was 10% in both 2007 and 2008. The company contributed $340,000 and $350,000 to the pension fund at the end of 2007 and 2008, respectively. There are no other components of Smith Company’s pension expense; ignore any additional pension liability.
Required
1. Compute the amount of Smith Company’s pension expense for 2007 and 2008.
2. Prepare the journal entries to record the pension expense for 2007 and 2008.
Methods to Amortize Unrecognized Prior Service Cost Wolz Company, a small business, has had a defined benefit pension plan for its employees for several years. At the beginning of 2007 the company amended the pension plan; this amendment provides for increased benefits based on services rendered by certain employees in prior periods. The company’s actuary has determined that the related unrecognized prior service cost amounts to $140,000. The company has four participating employees who are expected to receive the increased benefits. The following is a schedule identifying the employees and their expected years of future service:
Employee Numbers
Expected Years of Future Service
1
2
2
3
3
4
4
5
Required
1. Using the straight line method, (a) compute the average remaining service life, and (b) prepare a schedule to amortize the unrecognized prior service cost.
2. Using the years of future service method instead, prepare a set of schedules to determine (a) the amortization fraction for each year, and (b) the amortization of the unrecognized prior service cost.
Net Gain or Loss Lee Company has a defined benefit pension plan. During 2006, for the first time, the company experienced a difference between its expected and actual projected benefit obligation. At the beginning of 2007 the company’s actuary accumulated the following information:
Unrecognized net loss (1/1/2007)
$44,000
Actual projected benefit obligation (1/1/2007)
228,000
Fair value of plan assets (1/1/2007)
260,000
On December 31, 2007, the company is in the process of computing the net gain or loss to include in its pension expense for 2007. The company has determined that the average remaining service life of its employees is nine years. There was no difference between the company’s expected and actual return on plan assets in 2007.
Required
Compute the amount of the net gain or loss to include in the pension expense for 2007. Indicate whether it is an addition to or a subtraction from pension expense.
Net Gain or Loss The actuary of the Hudson Company has provided the following information concerning the company’s defined benefit pension plan at the end of 2007:
Fair value of plan assets (1/1/2007)
$350,000
Actual projected benefit obligation (1/1/2007)
360,000
Expected projected benefit obligation (1/1/2007)
424,000
Average remaining service life of employees
10 years
The difference between the actual and expected projected benefit obligation first occurred in 2006.
Required
1. Compute the amount of the unrecognized gain or loss for the Hudson Company’s pension plan at the beginning of 2007.
2. Compute the amount of the net gain or loss to include in the Hudson Company’s pension expense for 2007. Indicate whether it is an addition to or a subtraction from pension expense.
Additional Pension Liability Derosa Company has a defined benefit pension plan for its employees. Prior to 2007 the company has not had an additional pension liability. At the end of 2007 the company’s actuary developed the following information regarding its pension plan:
Projected benefit obligation
$1,429,000
Accumulated benefit obligation
987,000
Plan assets (fair value)
852,000
Unrecognized prior service cost
200,000
Required
1. Calculate the additional pension liability required at the end of 2007 and prepare the appropriate journal entry, assuming that the company had a prepaid/accrued pension cost (liability) of $73,000 before considering the preceding information.
2. Repeat Requirement 1 assuming, instead, that the company had a prepaid/accrued pension cost (asset) of $46,000.
3. Indicate how the liability and asset in Requirement 2 would be disclosed on the 2007 ending balance sheet.
Accounting for an OPEB Plan On January 1, 2007 Flash and Dash Company adopted a healthcare plan for its retired employees. To determine eligibility for benefits, the company retroactively gives credit to the date of hire for each employee. The following information is available about the plan:
Pension Plan Present Value Calculations The Ark Company adopted a defined benefit pension plan for its employees on January 1, 2007. All its employees are the same age, retire at the same time, and have the same life expectancy after retirement. The company decided to compute its pension expense on December 31 of each year; it also decided to fund an amount on that date equal to the years’ service cost. The following is a listing of other relevant facts:
Annual pension benefits earned by all employees for each year of service*
$100,000
Years to retirement (at end of 2007)
20
Years of life expectancy after date of retirement
15
Discount rate
9%
Expected long term (and actual) rate of return on plan assets
8%
*Paid at end of each year
For the years 2007 through 2009 the company experienced no net gain or loss and did not have an additional pension liability in regard to the pension plan.
Required
1. Prepare a schedule to compute the Ark Company’s pension expense for 2007 through 2009. Round to the nearest dollar.
2. Prepare the year end journal entries to record the company’s pension expense for 2007 through 2009.
Components of Pension Expense The Nelson Company has a defined benefit pension plan for its employees. At the end of 2007 and 2008 the following information is available in regard to this pension plan:
2007
2008
Expected return on plan assets
$27,000
$28,000
Amortization of unrecognized net gain
3,000
—
Amortization of unrecognized net loss
—
4,000
Amortization of unrecognized prior service cost
7,000
6,000
Company contribution (funded 12/31)
200,000
240,000
Interest cost on projected benefit obligation
32,000
35,000
Service cost
211,000
217,000
There are no other components of Nelson Company’s pension expense in either year; ignore any additional pension liability.
Required
1. Compute the amount of Nelson Company’s pension expense in 2007 and 2008.
2. Prepare the December 31 journal entry to record the pension expense in 2007 and 2008.
3. What is the total prepaid/accrued pension cost at the end of 2007, assuming no prepaid/accrued pension cost existed prior to 2007? Is it an asset or a liability?
Pension Expense Different Than Funding On January 1, 2007 the Parkway Company adopted a defined benefit pension plan. At that time, the company awarded retroactive benefits to its employees, resulting in an unrecognized prior service cost of $2,180,000 on that date. The company decided to amortize these costs by the straight line method over the 16 year average remaining service life of its active participating employees. The company’s actuary and funding agency have also provided the following additional information for 2007 and 2008:
2007
2008
Service cost
$340,000
$348,000
Projected benefit obligation (1/1)
2,180,000*
$2,738,000
Plan assets (1/1)
0
670,000
Discount rate
10%
10%
Expected long term (and actual) rate of return on plan assets
—
9%
*Due to the unrecognized prior service cost
The company contributed $670,000 and $700,000 to the pension fund at the end of 2007 and 2008, respectively. There are no other components of Parkway Company’s pension expense; ignore any additional pension liability.
Required
1. Compute the amount of Parkway Company’s pension expense for 2007 and 2008.
2. Prepare the December 31 journal entry to record the pension expense for 2007 and 2008.
3. What is the total prepaid/accrued pension cost at the end of 2008? Is it an asset or a liability?
Pension Expense Different Than Funding When Turner Company adopted its defined benefit pension plan on
January 1, 2007, it awarded retroactive benefits to its employees. These retroactive benefits resulted in an unrecognized prior service cost of $980,000 that created a projected benefit obligation of the same amount on that date. The company decided to amortize the unrecognized prior service cost using the years of future service method. The company’s actuary and funding agency have provided the following additional information for 2007 and 2008: (1) service cost: 2007, $187,000; 2008, $189,000; (2) plan assets: 1/1/2007, $0; 1/1/2008, $342,000; (3) expected long term (and actual) rate of return on plan assets: 2008, 9%; (4) discount rate for both 2007 and 2008: 8%; and (5) amortization fraction for unrecognized prior service cost: 2007, 80/980; 2008, 79/980. The company contributed $342,000 and $336,000 to the pension fund at the end of 2007 and 2008, respectively. No retirement benefits were paid in either year. There are no other components of Turner Company’s pension expense; ignore any additional pension liability. The company rounds its calculations to the nearest dollar.
Required
Prepare a pension plan worksheet that includes the calculation of the Turner Company’s pension expense for 2007 and 2008, the reconciliation of the beginning and ending projected benefit obligation for 2007 and 2008, the reconciliation of the beginning and ending plan assets for 2007 and 2008, and the journal entry to record the pension expense at the end of 2007 and 2008, indicating whether each component is a debit or credit.
Pension Expense Different Than Funding The Lane Company was incorporated in 1998. Because it had become successful, the company established a defined benefit pension plan for its employees on January 1, 2007. Due to the loyalty of its employees, the company granted retroactive benefits to them. These retroactive benefits resulted in $1,240,000 of unrecognized prior service cost on that date. The company decided to amortize these costs using the years of future service method. The company’s actuary and funding agency have provided the following additional information for 2007 and 2008:
2007
2008
Expected long term (and actual) rate of return on plan assets
—
9%
Amortization fraction for unrecognized prior service cost
48/620
46/620
Discount rate
9%
9%
Plan assets (1/1)
$ 0
$690,000
Projected benefit obligation (1/1)
1,240,000*
1,814,600
Service cost
463,000
475,000
*Due to the unrecognized prior service cost
The company contributed $690,000 and $650,000 to the pension fund at the end of 2007 and 2008, respectively. No retirement benefits were paid in 2007. There are no other components of Lane Company’s pension expense; ignore any additional pension liability. The company rounds its calculations to the nearest dollar.
Required
1. Compute the amount of Lane Company’s pension expense for 2007 and 2008.
2. Prepare the December 31 journal entry to record the pension expense for 2007 and 2008.
3. What is the total prepaid/accrued pension cost at the end of 2008? Is it an asset or a liability?
4. Prepare a schedule that reconciles the beginning and ending amounts of the projected benefit obligation for 2007.
Pension Expense Different Than Funding The Carpenter Company adopted a defined benefit pension plan for its employees on January 1, 2007. At the time of adoption the pension contract provided for retroactive benefits for the company’s active participating employees. These retroactive benefits resulted in an unrecognized prior service cost of $1,860,000 that created a projected benefit obligation of the same amount on that date. The company decided to amortize the unrecognized prior service cost by the straight line method over the 20 year average remaining service life of the employees. The following additional information is also available for 2007 and 2008: (1) discount rate for both 2007 and 2008: 8%; (2) company contribution (funded 12/31): 2007, $550,000; 2008, $510,000; (3) expected long term rate of return on plan assets: 9%; (4) actual rate of return on plan assets, 10%; (5) service cost: 2007, $257,000; 2008, $264,000; and (6) plan assets: 1/1/2007, $0. The company paid pension benefits of $30,000 each year. There are no other components of Carpenter Company’s pension expense; ignore any additional pension liability.
Required
Prepare a pension plan worksheet that includes the calculaion of the Carpenter Company’s pension expense for 2007 and 2008, the reconciliation of the beginning and ending projected benefit obligation for 2007 and 2008, the reconciliation of the beginning and ending plan assets for 2007 and 2008, and the journal entry to record the pension expense at the end of 2007 and 2008, indicating whether each component is a debit or credit.
Amortization of Unrecognized Prior Service Cost On January 1, 2007 the Baznik Company adopted a defined benefit pension plan. At that time the company awarded retroactive benefits to certain employees. These retroactive benefits resulted in an unrecognized prior service cost of $1,200,000 on that date. The company has six participating employees who are expected to receive the retroactive benefits. Following is a schedule that identifies the participating employees and their expected years of future service as of January 1, 2007:
Employee
Expected Years of Future Service
A
1
B
3
C
4
D
5
E
5
F
6
The company decided to amortize the unrecognized prior service cost to pension expense using the years of future service method. The following are the amounts of the components of Baznik Company’s pension expense, in addition to the amortization of the unrecognized prior service cost for 2007 and 2008:
2007
2008
Service cost
$469,000
$507,000
Interest cost on projected benefit obligation
108,000
159,930
Expected return on plan assets
—
85,000
The company contributed $850,000 and $830,000 to the pension fund at the end of 2007 and 2008, respectively. Ignore any additional pension liability.
Required
1. Prepare a set of schedules for the Baznik Company to determine (a) the amortization fraction for each year, and (b) the amortization of the unrecognized prior service cost.
2. Prepare the journal entries to record the pension expense for 2007 and 2008.
(Accounting for Computer Software Costs) During 2012, Botosan Enterprises Inc. spent $5,000,000 developing its new “Dover” software package. Of this amount, $2,600,000 was spent before technological feasibility was established for the product, which is to be marketed to third parties. The package was completed at December 31, 2012. Botosan expects a useful life of 8 years for this product with total revenues of $16,000,000. During the first year (2013), Botosan realizes revenues of $3,200,000.
Instructions
(a) Prepare journal entries required in 2012 for the foregoing facts.
(b) Prepare the entry to record amortization at December 31, 2013.
(c) At what amount should the computer software costs be reported in the December 31, 2013, balance sheet? Could the net realizable value of this asset affect your answer?
(d) What disclosures are required in the December 31, 2013, financial statements for the computer software costs?
(e) How would your answers for (a), (b), and (c) be different if the computer software was developed for internal use?
(Correct Intangible Asset Account) Reichenbach Co., organized in 2011, has set up a single account for all intangible assets. The following summary discloses the debit entries that have been recorded during 2012 and 2013.
7/1/12
8 year franchise; expiration date 6/30/19
$ 48,000
10/1/12
Advance payment on laboratory space (2 year lease)
24,000
12/31/12
Net loss for 2011 including state incorporation fee, $1,000, and related legal fees of organizing, $5,000 (all fees incurred in 2011)
16,000
1/2/13
Patent purchased (10 year life)
84,000
3/1/13
Cost of developing a secret formula (indefinite life)
75,000
4/1/13
Goodwill purchased (indefinite life)
278,400
6/1/13
Legal fee for successful defense of patent purchased above
12,650
9/1/13
Research and development costs
160,000
Instructions
Prepare the necessary entries to clear the Intangible Assets account and to set up separate accounts for distinct types of intangibles. Make the entries as of December 31, 2013, recording any necessary amortization and reflecting all balances accurately as of that date.
(Accounting for Franchise, Patents, and Trade Name) Information concerning Sandro Corporation’s intangible assets is as follows.
1. On January 1, 2012, Sandro signed an agreement to operate as a franchisee of Hsian Copy Service, Inc. for an initial franchise fee of $75,000. Of this amount, $15,000 was paid when the agreement was signed, and the balance is payable in 4 annual payments of $15,000 each, beginning January 1, 2013.
The agreement provides that the down payment is not refundable and no future services are required of the franchisor. The present value at January 1, 2012, of the 4 annual payments discounted at 14% (the implicit rate for a loan of this type) is $43,700. The agreement also provides that 5% of the revenue from the franchise must be paid to the franchisor annually. Sandro’s revenue from the franchise for 2012 was $900,000. Sandro estimates the useful life of the franchise to be 10 years. (Hint: You may want to refer to Appendix 18A to determine the proper accounting treatment for the franchise fee and payments.)
2. Sandro incurred $65,000 of experimental and development costs in its laboratory to develop a patent that was granted on January 2, 2012. Legal fees and other costs associated with registration of the patent totaled $17,600. Sandro estimates that the useful life of the patent will be 8 years.
3. A trademark was purchased from Shanghai Company for $36,000 on July 1, 2009. Expenditures for successful litigation in defense of the trademark totaling $10,200 were paid on July 1, 2012. Sandro estimates that the useful life of the trademark will be 20 years from the date of acquisition.
Instructions
(a) Prepare a schedule showing the intangible assets section of Sandro’s balance sheet at December 31, 2012. Show supporting computations in good form.
(b) Prepare a schedule showing all expenses resulting from the transactions that would appear on Sandro’s income statement for the year ended December 31, 2012.
(Accounting for R&D Costs) During 2010, Robin Wright Tool Company purchased a building site for its proposed research and development laboratory at a cost of $60,000. Construction of the building was started in 2010. The building was completed on December 31, 2011, at a cost of $320,000 and was placed in service on January 2, 2012. The estimated useful life of the building for depreciation purposes was 20 years. The straight line method of depreciation was to be employed, and there was no estimated salvage value. Management estimates that about 50% of the projects of the research and development group will result in long term benefits (i.e., at least 10 years) to the corporation. The remaining projects either benefit the current period or are abandoned before completion. A summary of the number of projects and the direct costs incurred in conjunction with the research and development activities for 2012 appears below.
Number of Projects
Salaries and Employee Benefits
Other Expenses (excluding Building Depreciation Charges)
Completed projects with long term benefits
15
$ 90,000
$50,000
Abandoned projects or projects that benefit the current period
10
65,000
15,000
Projects in process—results indeterminate
5
40,000
12,000
Total
30
$195,000
$77,000
Upon recommendation of the research and development group, Robin Wright Tool Company acquired a patent for manufacturing rights at a cost of $88,000. The patent was acquired on April 1, 2011, and has an economic life of 10 years.
Instructions
If generally accepted accounting principles were followed, how would the items above relating to research and development activities be reported on the following financial statements?
(a) The company’s income statement for 2012.
(b) The company’s balance sheet as of December 31, 2012.
Be sure to give account titles and amounts, and briefly justify your presentation.
(Goodwill, Impairment) On July 31, 2012, Mexico Company paid $3,000,000 to acquire all of the common stock of Conchita Incorporated, which became a division of Mexico. Conchita reported the following balance sheet at the time of the acquisition.
Current assets
$ 800,000
Current liabilities
$ 600,000
Noncurrent assets
2,700,000
Long term liabilities
500,000
Total assets
$3,500,000
Stockholders’ equity
2,400,000
Total liabilities and stockholders’ equity
$3,500,000
It was determined at the date of the purchase that the fair value of the identifiable net assets of Conchita was $2,750,000. Over the next 6 months of operations, the newly purchased division experienced operating losses. In addition, it now appears that it will generate substantial losses for the foreseeable future. At December 31, 2012, Conchita reports the following balance sheet information.
Current assets
$ 450,000
Noncurrent assets (including goodwill recognized in purchase)
2,400,000
Current liabilities
(700,000)
Long term liabilities
(500,000)
Net assets
$1,650,000
It is determined that the fair value of the Conchita Division is $1,850,000. The recorded amount for Conchita’s net assets (excluding goodwill) is the same as fair value, except for property, plant, and equipment, which has a fair value $150,000 above the carrying value.
Instructions
(a) Compute the amount of goodwill recognized, if any, on July 31, 2012.
(b) Determine the impairment loss, if any, to be recorded on December 31, 2012.
(c) Assume that fair value of the Conchita Division is $1,600,000 instead of $1,850,000. Determine the impairment loss, if any, to be recorded on December 31, 2012.
(d) Prepare the journal entry to record the impairment loss, if any, and indicate where the loss would be reported in the income statement.
(Comprehensive Intangible Assets) Montana Matt’s Golf Inc. was formed on July 1, 2011, when Matt Magilke purchased the Old Master Golf Company. Old Master provides video golf instruction at kiosks in shopping malls. Magilke plans to integrate the instructional business into his golf equipment and accessory stores. Magilke paid $770,000 cash for Old Master. At the time, Old Master’s balance sheet reported assets of $650,000 and liabilities of $200,000 (thus owners’ equity was $450,000). The fair value of Old Master’s assets is estimated to be $800,000. Included in the assets is the Old Master trade name with a fair value of $10,000 and a copyright on some instructional books with a fair value of $24,000. The trade name has a remaining life of 5 years and can be renewed at nominal cost indefinitely. The copyright has a remaining life of 40 years.
Instructions
(a) Prepare the intangible assets section of Montana Matt’s Golf Inc. at December 31, 2011. How much amortization expense is included in Montana Matt’s income for the year ended December 31, 2011? Show all supporting computations.
(b) Prepare the journal entry to record amortization expense for 2012. Prepare the intangible assets section of Montana Matt’s Golf Inc. at December 31, 2012. (No impairments are required to be recorded in 2012.)
(c) At the end of 2013, Magilke is evaluating the results of the instructional business. Due to fierce competition from online and television (e.g., the Golf Channel), the Old Master reporting unit has been losing money. Its book value is now $500,000. The fair value of the Old Master reporting unit is $420,000. The implied value of goodwill is $90,000. Magilke has collected the following information related to the company’s intangible assets.
Intangible Asset
Expected Cash Flows (undiscounted)
Fair Values
Trade names
$ 9,000
$ 3,000
Copyrights
30,000
25,000
Prepare the journal entries required, if any, to record impairments on Montana Matt’s intangible assets.
Temporary and Permanent Differences In the current year you are calculating a diversified company’s deferred taxes. Based on an analysis of the company’s current taxable income and pretax financial income, you have identified the following items that create differences between the two amounts and that may result in differences between the company’s future taxable income and its future pretax financial income:
1. Percentage depletion deducted for taxes in excess of cost depletion for financial reporting
2. Warranty costs to be deducted for taxes that were deducted as warranty expense for financial reporting
3. Gross profit to be recognized for taxes under the completed contract method that was recognized for financial reporting under the percentage of completion method 4. Officers’ life insurance premium expense deducted for financial reporting
5. Rent revenue to be recognized for financial reporting that was reported for taxes when collected in advance
6. Loss from write down of inventory that was recognized for financial reporting but that will be deducted for taxes when the inventory is sold
7. Interest revenue on municipal bonds recognized for financial reporting
8. Loss due to contingent liability that was deducted for financial reporting that will be deducted for taxes when the liability is actually paid
9. Gross profit to be recognized under installment method for tax purposes that was recognized on accrual basis for financial reporting
10. Depreciation to be recognized for financial reporting in excess of MACRS depreciation to be deducted for tax purposes
11. Investment income that has been recognized under the equity method for financial reporting that will be recognized as fully taxable for tax purposes when dividends are collected
Required
For each difference, indicate whether it is a temporary difference (T) or a permanent difference (P) by placing the appropriate letter on the line provided. If the difference is a temporary difference, also indicate for the current year whether it will result in a future taxable amount (T) or a future deductible amount (D).
Definitions The FASB has defined several terms in regard to accounting for income taxes. Below are various code letters (for terms) followed by definitions.
Code Letter
Term
Code Letter
Term
A
Future deductible amount
H
Deferred tax consequences
B
Income tax obligation (or refund)
I
Future taxable amount
C
Operating loss carryback
J
Deferred tax liability
D
Valuation allowance
K
Temporary difference
E
Deferred tax asset
L
Income tax expense (or benefit)
F
Operating loss carry forward
M
Deferred tax expense (or benefit)
G
Taxable income
1. The deferred tax consequences of future deductibles amounts and operating loss carry forwards
2. A difference between the tax basis of an asset or liability and its reported amount in the financial statements that will result in taxable or deductible amounts in future years when the reported amount of the asset or liability is recovered or settled, respectively
3. Temporary difference that results in taxable amounts in future years when the related asset or liability is recovered or settled, respectively
4. The future effects on income taxes, as measured by the applicable enacted tax rate and provisions of the enacted tax law, resulting from temporary differences and operating loss carry forwards at the end of the current year
5. The change during the year in a corporation’s deferred tax liabilities and assets 6. The deferred tax consequences of future taxable amounts
7. The portion of a deferred tax asset for which it is more likely than not that a tax benefit will not be realized
8. Temporary difference that results in deductible amounts in future years when the related asset or liability is recovered or settled, respectively
9. The sum of income tax obligation and deferred tax expense (or benefit)
10. The amount of income taxes paid or payable (or refundable) for the current year
11. An excess of tax deductible expenses over taxable revenues in a year that may be carried forward to reduce taxable income in a future year
12. The excess of taxable revenues over tax deductible expenses and exemptions for the year
13. An excess of tax deductible expenses over taxable revenues in a year that may be carried back to reduce taxable income in a prior year
Required
Indicate which terms belongs with each definition by inserting the corresponding code letter on the line preceding the definition.
Multiple Temporary Differences Wilcox Company has prepared the following reconciliation of its pretax financial income with its taxable income for 2007:
Pretax financial income
$3,000
Add:
Estimated expense on one year warranties recognized for financial reporting in excess of actual warranty costs deducted for income taxes
100
Less:
MACRS depreciation deducted for income taxes in excess of depreciation recognized for financial reporting
150
Taxable income
$2,950
At the beginning of 2007, Wilcox Company had a deferred tax liability of $495. The current tax rate is 30% and no change in the tax rate has been enacted for future years. At the end of 2007, the company anticipates that actual warranty costs will exceed estimated warranty expense by $100 next year and that financial depreciation will exceed tax depreciation by $1,800 in future years. The company has earned income in all past years and expects to earn income in the future.
Required
1. Prepare the income tax journal entry of the Wilcox Company at the end of 2007.
2. Prepare the lower portion of Wilcox’s 2007 income statement.
3. Show how the income tax items are reported on Wilcox’s December 31, 2007 balance sheet.
Inter period Tax Allocation Klerk Company had four temporary differences between its pretax financial income and its taxable income during 2007, as follows:
Number
Temporary Difference
1
Gross profit on certain installment sales is recognized under the accrual method for financial reporting and under the installment method for income taxes
2
MACRS depreciation is used for income taxes; a different depreciation method is used for financial reporting
3
Rent receipts are included in taxable income when collected in advance; rent revenue is recognized under the accrual method for financial reporting
4
Warranty expense is estimated for financial reporting; warranty costs are deducted as incurred for income taxes
At the beginning of 2007, the company had a deferred tax liability of $84,300 related to temporary difference #2 and a deferred tax asset of $21,090 related to temporary difference #4. Based on its tax records, the company earned taxable income of $270,000 for 2007. The company’s accountant has prepared the following schedule showing the total future taxable and deductible amounts at the end of 2007 for its four temporary differences:
Future Taxable Amounts
Future Deductible Amounts
#1
#2
#3
#4
$77,900
$241,000
$20,000
$55,300
The company has a history of earning income and expects to be profitable in the future. The income tax rate for 2007 is 40%, but in 2006 Congress enacted a 30% tax rate for 2008 and future years.
During 2007, for financial accounting purposes, the company reported revenues of $750,000 and expenses of $447,100. The deferred tax related to temporary differences #1, #2, and #4 are considered to be noncurrent by the company; the deferred tax related to temporary difference #3 is considered to be current.
Required
1. Prepare the income tax journal entry of the Klerk Company for 2007.
2. Prepare a condensed 2007 income statement for the Klerk Company.
3. Show how the income tax items are reported on Klerk Company’s December 31, 2007 balance sheet.
Inter period Tax Allocation Peterson Company has computed its pretax financial income to be $66,000 in 2007 after including the effects of the appropriate items from the following information:
1. Depreciation taken for tax purposes
$40,000
2. Officers’ life insurance premium expense recorded on accounting records
15,000
3. Interest revenue on investment in municipal bonds recorded on accounting records
25,000
4. Percentage depletion taken for tax purposes in excess of cost depletion taken for financial reporting purposes
10,000
5. Depreciation taken for financial reporting purposes
48,000
6. Actual product warranty costs deducted for tax purposes
20,000
7. Gross profit on installment sales recognized for tax purposes
80,000
8. Estimated product warranty expense recorded on accounting records
27,000
9. Gross profit on installment sales recognized for financial reporting purposes
91,000
The company’s accountant has prepared the following schedule showing the future taxable and deductible amounts at the end of 2007 for its three temporary differences:
Totals
Future Taxable Amounts
Depreciation difference
$33,800
Installment sales: gross profit difference
26,700
Future Deductible Amounts
Warranty difference
56,500
At the beginning of 2007 the company had a deferred tax liability of $12,540 related to the depreciation difference and $4,710 related to the installment sales difference. In addition, it had a deferred tax asset of $14,850 related to the warranty difference. The current tax rate is 30% and no change in the tax rate has been enacted for future years.
Required
1. Compute the Peterson Company’s taxable income for 2007.
2. Prepare the income tax journal entry of the Peterson Company for 2007 (assume no valuation allowance is necessary).
3. Identify the permanent differences in Items 1–9 and explain why you did or did not account for them as deferred tax items in Requirement 2.
Inter period Tax Allocation Quick Company reports the following revenues and expenses in its pretax financial income for the year ended December 31, 2007:
Revenues
$229,600
Expenses
160,100
Pretax financial income
$69,500
The revenues included in pretax financial income are the same amount as the revenues included in the company’s taxable income. A reconciliation of the expenses reported for pretax financial income to the expenses reported for taxable income, however, reveals four differences:
1. Depreciation deducted for financial reporting exceeded depreciation deducted for income taxes by $11,000
2. Percentage depletion deducted for income taxes exceeded cost depletion deducted for financial reporting by $15,600
3. Warranty costs deducted for income taxes exceeded warranty expenses deducted for financial reporting by $8,900
4. Legal expense of $9,800 was deducted for financial reporting; it will be deducted for income taxes when paid in a future year
The company expects its percentage depletion to exceed its cost depletion in each of the next five years by the same amount as in 2007. At the end of 2007 the other three expenses are expected to result in total future taxable or deductible amounts as follows:
Totals
Future Taxable Amounts
Depreciation expense difference
$63,000
Future Deductible Amounts
Warranty expense difference
48,400
Legal expense difference
9,800
At the beginning of 2007 the company had a deferred tax liability of $22,200 related to the depreciation difference and a deferred tax asset of $17,190 related to the warranty difference. The income tax rate for 2007 is 35%, but in 2006 Congress enacted a 30% rate for 2008 and future years.
Required
1. Compute the Quick Company’s taxable income for 2007.
2. Prepare the income tax journal entry of the Quick Company for 2007. Assume no valuation allowance is necessary.
3. Prepare a condensed 2007 income statement for the Quick Company.
Deferred Tax Liability: Depreciation At the beginning of 2007, its first year of operations, Cooke Company purchased an asset for $100,000. This asset has an eight year economic life with no residual value, and it is being depreciated by the straight line method for financial reporting purposes. For tax purposes, however, the asset is being depreciated using the MACRS (200%, 5 year life) method.
During 2007, the company reported pretax financial income of $51,500 and taxable income of $44,000. The depreciation temporary difference caused the difference between the two income amounts. The tax rate in 2007 was 30% and no change in the tax rate had been enacted for future years.
Required
1. Prepare a schedule that shows for each year, 2007 through 2014, (a) MACRS depreciation, (b) straight line depreciation, (c) the annual depreciation temporary difference, and (d) the accumulated temporary difference at the end of each year.
2. Prepare a schedule that computes for each year, 2007 through 2014, (a) the ending deferred tax liability, and (b) the change in the deferred tax liability.
3. Prepare the income tax journal entry at the end of 2007.
4. Explain what happens to the balance of the deferred tax liability at the end of 2007 through 2014.
Deferred Tax Liability: Depreciation Gire Company began operations at the beginning of 2007, at which time it purchased a depreciable asset for $60,000. For 2007 through 2010, the asset was depreciated on the straight line basis over a four year life (no residual value) for financial reporting. For income tax purposes the asset was depreciated using MACRS (200%, three year life).
For 2007 through 2010, the company reported pretax financial income and taxable income of the following amounts (the differences are due solely to the depreciation temporary differences):
Year
Pretax Financial Income
Taxable Income
2007
$24,998
$20,000
2008
38,670
27,000
2009
27,886
34,000
2010
29,446
40,000
Over the entire four year period, the company was subject to an income tax of 30% and no change in the tax rate had been enacted for future years.
Required
1. Prepare a schedule that shows for each year, 2007 through 2010, the (a) MACRS depreciation, (b) straight line depreciation, (c) annual depreciation temporary difference, and (d) accumulated temporary difference at the end of each year.
2. Prepare the income tax journal entry at the end of (a) 2007, (b) 2008, (c) 2009, and (d) 2010. (Round to the nearest dollar.)
3. Prepare the lower portion of the income statement for (a) 2007, (b) 2008, (c) 2009 and (d) 2010.
Operating Loss Ross Company has been in business for several years, during which time it has been profitable. For each of those years, the company reported (and paid taxes on) taxable income in the same amount as pretax financial income based on the following revenues and expenses:
Revenues
Expenses
2003
$182,000
$150,000
2004
220,000
170,000
2005
253,000
180,000
2006
241,000
196,000
The company was subject to the following income tax rates during this period: 2003, 20%; 2004, 25%; 2005, 30%; and 2006, 25%.
During 2007 the company experienced a severe decrease in the demand for its products. The company tried to offset this decrease with an expensive marketing campaign, but was unsuccessful. Consequently, at the end of 2007 the company determined that its revenues were $60,000 and its expenses were $193,000 during 2007 for both income taxes and financial reporting.
The company decided to carry back its 2007 operating loss because it was not confident it could earn taxable income in the future carry forward period. The income tax rate was 30% in 2007 and no change in the tax rate had been enacted for future years.
In 2008 the company developed and introduced a new product that proved to be in high demand. On June 1, 2008 the company received a refund check from the government based on the tax information it filed at the end of 2007. For 2008 the company reported revenues of $181,000 and expenses of $155,000 for both income taxes and financial reporting. The applicable income tax rate was 30%.
Required
1. Prepare the income tax journal entries of the Ross Company at the end of 2007.
2. Prepare the Ross Company’s 2007 income statement. Include a note for any operating loss carry forward.
3. Prepare the journal entry to record the receipt of the refund check on June 1, 2008.
4. Prepare the income tax journal entry at the end of 2008.
5. Prepare the Ross Company’s 2008 income statement.
Operating Loss Refer to the information in Problem 19 10 and modify it as follows: The company decided to carry back its 2007 operating loss. Furthermore, since the company had already begun to develop the new product at the end of 2007 and had contracts for its sale in 2008, the company was confident at the end of 2007 that it would earn sufficient taxable income in the future carry forward period.
Required
1. Prepare the income tax journal entries of the Ross Company at the end of 2007.
2. Prepare the Ross Company’s 2007 income statement. Include a note for any operating loss carry forward recognition.
3. Prepare the journal entry to record the receipt of the refund check on June 1, 2008.
4. Prepare the income tax journal entry at the end of 2008.
5. Prepare the Ross Company’s 2008 income statement.
Balance Sheet Reporting and Tax Rate Change At the end of 2006, Dolf Company prepared the following schedule of its deferred tax items (based on the currently enacted tax rate of 30%):
Deferred Tax Item #
Account Balance
Related Asset or Liability
1
$ 8,400 debit
Current asset
2
10,200 debit
Noncurrent asset
3
5,700 credit
Current liability
4
17,700 credit
Noncurrent liability
On April 30, 2007 Congress changed the income tax rate to 40% for 2007 and future years. At the end of 2007 the company reported taxable income of $62,500 for 2007. At that time, the company determined that its deferred tax items should have balances as follows at the end of 2007 (based on the 40% tax rate): #1, $10,700 debit; #2, $15,000 debit; #3, $7,000 credit; #4, $25,900 credit.
Required
1. Show how the deferred tax items are reported on the Dolf Company’s December 31, 2006 balance sheet.
2. Prepare the April 30, 2007 journal entry to correct Dolf Company’s deferred tax items.
3. Prepare the income tax journal entry of the Dolf Company at the end of 2007.
4. Show how the current and deferred tax items are reported on the Dolf Company’s December 31, 2007 balance sheet.
5. Calculate the total income tax expense for 2007.
Comprehensive Colt Company reports pretax financial “income” of $143,000 in 2007. In addition to pretax income from continuing operations (of which revenues are $295,000), the following items are included in this pretax ‘income :”
Extraordinary gain
$30,000
Loss from disposal of Division B
10,000
Income from operations of discontinued Division B
16,000
Prior period adjustment
8,000
The taxable income of the company totals $123,000 in 2007. The difference between the pretax financial income and the taxable income is due to the excess of tax depreciation over financial depreciation on assets used in continuing operations.
At the beginning of 2007 the company had a retained earnings balance of $310,000 and a deferred tax liability of $8,100.
During 2007 the company declared and paid dividends of $48,000. It is subject to tax rates of 15% on the first $50,000 of income and 30% on income in excess of $50,000. Based on proper inter period tax allocation procedures, the company has determined that its 2007 ending deferred tax liability is $14,100.
Required
1. Prepare a schedule for the Colt Company to allocate the total 2007 income tax expense to the various components of pretax income.
2. Prepare the income tax journal entry of the Colt Company at the end of 2007.
3. Prepare Colt Company’s 2007 income statement.
4. Prepare Colt Company’s 2007 statement of retained earnings.
5. Show the related income tax disclosures on the Colt Company’s December 31, 2007 balance sheet.
Comprehensive At the beginning of 2007 Norris Company had a deferred tax liability of $6,400, because of the use of MACRS depreciation for income tax purposes and units of production depreciation for financial reporting. The income tax rate is 30% for 2006 and 2007, but in 2006 Congress enacted a 40% tax rate for 2008 and future years.
The accounting records of the Norris Company show the following pretax items of financial income for 2007: income from continuing operations, $120,000 (revenues of $352,000 and expenses of $232,000); gain on disposal of Division F, $23,000; extraordinary loss, $18,000; loss from operations of discontinued Division F, $10,000; and prior period adjustment, $15,000, due to an error that understated revenue in 2006. All of these items are taxable; however, financial depreciation for 2007 on assets related to continuing operations exceeds tax depreciation by $5,000. The company had a retained earnings balance of $161,000 on January 1, 2007 and declared and paid cash dividends of $32,000 during 2007.
Required
1. Prepare the income tax journal entry of the Norris Company at the end of 2007.
2. Prepare Norris Company’s 2007 income statement.
3. Prepare Norris Company’s 2007 statement of retained earnings.
4. Show the related income tax disclosures on the Norris Company’s December 31, 2007 balance sheet.
Comprehensive Jayryan Company sells products in a volatile market. The company began operating in 2005 and reported (and paid taxes on) taxable income in 2005 and 2006. It has one taxable temporary difference (future taxable amount), and reconciled its taxable income to its pretax financial income for 2005 and 2006 as follows:
2005
2006
Taxable income
$25,000
$53,000
Temporary difference
2,500
4,800
Pretax financial income
$27,500
$57,800
In 2007, because of a downturn in the market, the company reported a taxable loss of $90,000 and it was uncertain as to future profits. A temporary difference of $2,700 resulted in an $87,300 pretax operating loss for financial reporting. In 2008 and 2009 the company was again profitable and reported the following items:
2008
2009
Taxable income
$7,000
$19,000
Temporary difference
2,300
2,800
Pretax financial income
$9,300
$21,800
The income tax rate has been 30% since 2003 and no change in the tax rate has been enacted for future years.
Required
1. Prepare a schedule that shows the Jayryan Company’s income taxes payable (or receivable) for each year, 2005 through 2009.
2. Prepare a schedule that shows the deferred tax information (change in temporary difference and operating loss carry forward) for each year, 2005 through 2009.
3. Prepare a schedule that shows the deferred taxes for each year, 2005 through 2009.
4. Based on the schedule prepared in Requirement 3, prepare the income tax journal entry at the end of 2007.
5. Prepare a partial income statement for 2007. Include a note for any operating loss carry forward.
(Depreciation—Strike, Units of Production, Obsolescence) Presented are three different and unrelated situations involving depreciation accounting. Answer the question(s) at the end of each situation.
Situation I
Recently, Broderick Company experienced a strike that affected a number of its operating plants. The controller of this company indicated that it was not appropriate to report depreciation expense during this period because the equipment did not depreciate and an improper matching of costs and revenues would result. She based her position on the following points.
1. It is inappropriate to charge the period with costs for which there are no related revenues arising from production.
2. The basic factor of depreciation in this instance is wear and tear, and because equipment was idle, no wear and tear occurred.
Instructions
Comment on the appropriateness of the controller’s comments.
Situation II
Etheridge Company manufactures electrical appliances, most of which are used in homes. Company engineers have designed a new type of blender which, through the use of a few attachments, will perform more functions than any blender currently on the market. Demand for the new blender can be projected with reasonable probability. In order to make the blenders, Etheridge needs a specialized machine that is not available from outside sources. It has been decided to make such a machine in Etheridge’s own plant.
Instructions
(a) Discuss the effect of projected demand in units for the new blenders (which may be steady, decreasing, or increasing) on the determination of a depreciation method for the machine.
(b) What other matters should be considered in determining the depreciation method? Ignore income tax considerations.
Situation III
Haley Paper Company operates a 300 ton per day kraft pulp mill and four sawmills in Wisconsin. The company is in the process of expanding its pulp mill facilities to a capacity of 1,000 tons per day and plans to replace three of its older, less efficient sawmills with an expanded facility. One of the mills to be replaced did not operate for most of 2012 (current year), and there are no plans to reopen it before the new sawmill facility becomes operational. In reviewing the depreciation rates and in discussing the residual values of the sawmills that were to be replaced, it was noted that if present depreciation rates were not adjusted, substantial amounts of plant costs on these three mills would not be depreciated by the time the new mill came on stream.
Instructions
What is the proper accounting for the four sawmills at the end of 2012?
(Depreciation Concepts) As a cost accountant for San Francisco Cannery, you have been approached by Phil Perriman, canning room supervisor, about the 2012 costs charged to his department. In particular, he is concerned about the line item “depreciation.” Perriman is very proud of the excellent condition of his canning room equipment. He has always been vigilant about keeping all equipment serviced and well oiled. He is sure that the huge charge to depreciation is a mistake; it does not at all reflect the cost of minimal wear and tear that the machines have experienced over the last year. He believes that the charge should be considerably lower. The machines being depreciated are six automatic canning machines. All were put into use on January 1, 2012. Each cost $625,000, having a salvage value of $55,000 and a useful life of 12 years. San Francisco depreciates this and similar assets using double declining balance depreciation. Perriman has also pointed out that if you used straight line depreciation the charge to his department would not be so great.
Instructions
Write a memo to Phil Perriman to clear up his misunderstanding of the term “depreciation.” Also, calculate year 1 depreciation on all machines using both methods. Explain the theoretical justification for double declining balance and why, in the long run, the aggregate charge to depreciation will be the same under both methods.
(Depreciation Choice—Ethics) Jerry Prior, Beeler Corporation’s controller, is concerned that net income may be lower this year. He is afraid upper level management might recommend cost reductions by laying off accounting staff, including him. Prior knows that depreciation is a major expense for Beeler. The company currently uses the double declining balance method for both financial reporting and tax purposes, and he’s thinking of selling equipment that, given its age, is primarily used when there are periodic spikes in demand. The equipment has a carrying value of $2,000,000 and a fair value of $2,180,000. The gain on the sale would be reported in the income statement. He doesn’t want to highlight this method of increasing income. He thinks, “Why don’t I increase the estimated useful lives and the salvage values? That will decrease depreciation expense and require less extensive disclosure, since the changes are accounted for prospectively. I may be able to save my job and those of my staff.”
Presented below is information related to equipment owned by Pujols Company at December 31, 2012.
Cost (residual value $0)
$9,000,000
Accumulated depreciation to date
1,000,000
Value in use
5,500,000
Fair value less cost of disposal
4,400,000
Assume that Pujols will continue to use this asset in the future. As of December 31, 2012, the equipment has a remaining useful life of 8 years. Pujols uses straight line depreciation.
Instructions
(a) Prepare the journal entry (if any) to record the impairment of the asset at
December 31, 2012.
(b) Prepare the journal entry to record depreciation expense for 2013.
(c) The recoverable amount of the equipment at December 31, 2013, is $6,050,000.
Prepare the journal entry (if any) necessary to record this increase.
(Classification Issues—Intangibles) Presented below is selected information related to Matt Perry Inc. as of December 21, 2012. All these items have debit balances.
Cable television franchises
Film contract rights
Music copyrights
Customer lists
Research and development costs
Prepaid expenses
Goodwill
Covenants not to compete
Cash
Brand names
Discount on notes payable
Notes receivable
Accounts receivable
Investments in affiliated companies
Property, plant, and equipment
Organization costs
Internet domain name
Land
Instructions
Identify which items should be classified as an intangible asset. For those items not classified as an intangible asset, indicate where they would be reported in the financial statements.
(Intangible Amortization) Presented below is selected information for Palmiero Company.
1. Palmiero purchased a patent from Vania Co. for $1,500,000 on January 1, 2010. The patent is being amortized over its remaining legal life of 10 years, expiring on January 1, 2020. During 2012, Palmiero determined that the economic benefits of the patent would not last longer than 6 years from the date of acquisition. What amount should be reported in the balance sheet for the patent, net of accumulated amortization, at December 31, 2012?
2. Palmiero bought a franchise from Dougherty Co. on January 1, 2011, for $350,000. The carrying amount of the franchise on Dougherty’s books on January 1, 2011, was $500,000. The franchise agreement had an estimated useful life of 30 years. Because Palmiero must enter a competitive bidding at the end of 2020, it is unlikely that the franchise will be retained beyond 2020. What amount should be amortized for the year ended December 31, 2012?
3. On January 1, 2010, Palmiero incurred organization costs of $275,000. What amount of organization expense should be reported in 2012?
4. Palmiero purchased the license for distribution of a popular consumer product on January 1, 2012, for $150,000. It is expected that this product will generate cash flows for an indefinite period of time. The license has an initial term of 5 years but by paying a nominal fee, Palmiero can renew the license indefinitely for successive 5 year terms. What amount should be amortized for the year ended December 31, 2012?
Instructions
Answer the questions asked about each of the factual situations.
(Accounting for Trade Name) In early January 2011, Reymont Corporation applied for a trade name, incurring legal costs of $18,000. In January 2012, Reymont incurred $7,800 of legal fees in a successful defense of its trade name.
Instructions
(a) Compute 2011 amortization, 12/31/11 book value, 2012 amortization, and 12/31/12 book value if the company amortizes the trade name over 10 years.
(b) Compute the 2012 amortization and the 12/31/12 book value, assuming that at the beginning of 2012, Reymont determines that the trade name will provide no future benefits beyond December 31, 2015.
(c) Ignoring the response for part (b), computes the 2013 amortization and the 12/31/13 book value, assuming that at the beginning of 2013, based on new market research, Reymont determines that the fair value of the trade name is $16,000. Estimated total future cash flows from the trade name is $17,000 on January 3, 2013.
(Accounting for Organization Costs) Fontenot Corporation was organized in 2011 and began operations at the beginning of 2012. The company is involved in interior design consulting services. The following costs were incurred prior to the start of operations.
Attorney’s fees in connection with organization of the company
$17,000
Purchase of drafting and design equipment
10,000
Costs of meetings of incorporators to discuss organizational activities
7,000
State fi ling fees to incorporate
1,000
$35,000
Instructions
(a) Compute the total amount of organization costs incurred by Fontenot.
(b) Prepare the journal entry to record organization costs for 2012.
(Accounting for Patents, Franchises, and R&D) Devon Harris Company has provided information on intangible assets as follows.
A patent was purchased from Bradtke Company for $2,500,000 on January 1, 2011. Harris estimated the remaining useful life of the patent to be 10 years. The patent was carried in Bradtke’s accounting records at a net book value of $2,000,000 when Bradtke sold it to Harris. During 2012, a franchise was purchased from Greene Company for $580,000. In addition, 5% of revenue from the franchise must be paid to Greene. Revenue from the franchise for 2012 was $2,500,000. Harris estimates the useful life of the franchise to be 10 years and takes a full year’s amortization in the year of purchase. Harris incurred research and development costs in 2012 as follows.
Materials and equipment
$142,000
Personnel
189,000
Indirect costs
102,000
$433,000
Harris estimates that these costs will be recouped by December 31, 2015. The materials and equipment purchased have no alternative uses. On January 1, 2012, because of recent events in the field, Harris estimates that the remaining life of the patent purchased on January 1, 2011, is only 5 years from January 1, 2012.
Instructions
(a) Prepare a schedule showing the intangibles section of Harris’s balance sheet at December 31, 2012.Show supporting computations in good form.
(b) Prepare a schedule showing the income statement effect for the year ended December 31, 2012, as a result of the facts above. Show supporting computations in good form.
(Accounting for Patents) During 2009, Thompson Corporation spent $170,000 in research and development costs. As a result, a new product called the New Age Piano was patented. The patent was obtained on October 1, 2009, and had a legal life of 20 years and a useful life of 10 years. Legal costs of $24,000 related to the patent were incurred as of October 1, 2009.
Instructions
(a) Prepare all journal entries required in 2009 and 2010 as a result of the transactions above.
(b) On June 1, 2011, Thompson spent $12,400 to successfully prosecute a patent infringement suit. As a result, the estimate of useful life was extended to 12 years from June 1, 2011. Prepare all journal entries required in 2011 and 2012.
(c) In 2013, Thompson determined that a competitor’s product would make the New Age Piano obsolete and the patent worthless by December 31, 2014. Prepare all journal entries required in 2013 and 2014.
(Accounting for Patents) Reddy Industries has the following patents on its December 31, 2011, balance sheet.
Patent Item
Initial Cost
Date Acquired
Useful Life at Date Acquired
Patent A
$40,800
3/1/08
17 years
Patent B
$15,000
7/1/09
10 years
Patent C
$14,400
9/1/10
4 years
The following events occurred during the year ended December 31, 2012.
1. Research and development costs of $245,700 were incurred during the year.
2. Patent D was purchased on July 1 for $28,500. This patent has a useful life of 91/2 years.
3. As a result of reduced demands for certain products protected by Patent B, a possible impairment of Patent B’s value may have occurred at December 31, 2012. The controller for Reddy estimates the expected future cash flows from Patent B will be as follows.
Year
Expected Future Cash Flows
2013
$2,000
2014
2,000
2015
2,000
The proper discount rate to be used for these flows is 8%. (Assume that the cash flows occur at the end of the year.)
Instructions
(a) Compute the total carrying amount of Reddy’s patents on its December 31, 2011, balance sheet.
(b) Compute the total carrying amount of Reddy’s patents on its December 31, 2012, balance sheet.
(Accounting for Goodwill) Fred Graf, owner of Graf Interiors, is negotiating for the purchase of Terrell Galleries. The balance sheet of Terrell is given in an abbreviated form below.
TERRELL GALLERIES BALANCE SHEET AS OF DECEMBER 31, 2012
Assets
Liabilities and Stockholders’ Equity
Cash
$100,000
Accounts payable
$ 50,000
Land
70,000
Notes payable (long term)
300,000
Buildings (net)
200,000
Total liabilities
350,000
Equipment (net)
175,000
Common stock
$200,000
Copyrights (net)
30,000
Retained earnings
25,000
225,000
Total assets
$575,000
Total liabilities and stockholders’ equity
$575,000
Graf and Terrell agree that:
1. Land is undervalued by $50,000.
2. Equipment is overvalued by $5,000.
Terrell agrees to sell the gallery to Graf for $380,000.
Instructions
Prepare the entry to record the purchase of Terrell Galleries on Graf’s books.
(Accounting for Goodwill) On July 1, 2012, Gissel Corporation purchased Mills Company by paying $250,000 cash and issuing a $150,000 note payable. At July 1, 2012, the balance sheet of Mills Company was as follows.
Cash
$ 50,000
Accounts payable
$200,000
Accounts receivable
90,000
Stockholders’ equity
235,000
Inventory
100,000
$435,000
Land
40,000
Buildings (net)
75,000
Equipment (net)
70,000
Copyrights
10,000
$435,000
The recorded amounts all approximate current values except for land (fair value of $80,000), inventory (fair value of $125,000), and copyrights (fair value of $15,000).
Instructions
(a) Prepare the July 1 entry for Gissel Corporation to record the purchase.
(b) Prepare the December 31 entry for Gissel Corporation to record amortization of intangibles. The copyright has an estimated useful life of 4 years with a residual value of $3,000.
(Copyright Impairment) Presented below is information related to copyrights owned by Botticelli Company at December 31, 2012.
Cost
$8,600,000
Carrying amount
4,300,000
Expected future net cash fl ows
4,000,000
Fair value
3,400,000
Assume that Botticelli Company will continue to use this copyright in the future. As of December 31, 2012, the copyright is estimated to have a remaining useful life of 10 years.
Instructions
(a) Prepare the journal entry (if any) to record the impairment of the asset at December 31, 2012. The company does not use accumulated amortization accounts.
(b) Prepare the journal entry to record amortization expense for 2013 related to the copyrights.
(c) The fair value of the copyright at December 31, 2013, is $3,400,000. Prepare the journal entry (if any) necessary to record the increase in fair value.
(Goodwill Impairment) Presented below is net asset information related to the Mischa Division of Santana, Inc.
MISCHA DIVISION NET ASSETS AS OF DECEMBER 31, 2012 (IN MILLIONS)
Cash
$ 60
Accounts receivable
200
Property, plant, and equipment (net)
2,600
Goodwill
200
Less: Notes payable
2,700
Net assets
$ 360
The purpose of the Mischa Division is to develop a nuclear powered aircraft. If successful, traveling delays associated with refueling could be substantially reduced. Many other benefits would also occur. To date, management has not had much success and is deciding whether a write down at this time is appropriate. Management estimated its future net cash flows from the project to be $400 million. Management has also received an offer to purchase the division for $335 million. All identifiable assets’ and liabilities’ book and fair value amounts are the same.
Instructions
(a) Prepare the journal entry (if any) to record the impairment at December 31, 2012.
(b) At December 31, 2013, it is estimated that the division’s fair value increased to $345 million. Prepare the journal entry (if any) to record this increase in fair value.
(Accounting for R&D Costs) Margaret Avery Company from time to time embarks on a research program when a special project seems to offer possibilities. In 2011, the company expends $325,000 on a research project, but by the end of 2011 it is impossible to determine whether any benefit will be derived from it.
Instructions
(a) What account should be charged for the $325,000, and how should it be shown in the financial statements?
(b) The project is completed in 2012, and a successful patent is obtained. The R&D costs to complete the project are $130,000. The administrative and legal expenses incurred in obtaining patent number 472 1001 84 in 2012 total $24,000. The patent has an expected useful life of 5 years. Record these costs in journal entry form. Also, record patent amortization (full year) in 2012.
(c) In 2013, the company successfully defends the patent in extended litigation at a cost of $47,200, thereby extending the patent life to December 31, 2020. What is the proper way to account for this cost? Also, record patent amortization (full year) in 2013.
(d) Additional engineering and consulting costs incurred in 2013 required to advance the design of a product to the manufacturing stage total $60,000. These costs enhance the design of the product considerably. Discuss the proper accounting treatment for this cost.
(Accounting for R&D Costs) Martinez Company incurred the following costs during 2012 in connection with its research and development activities.
Cost of equipment acquired that will have alternative uses in future R&D projects over the next 5 years
$330,000
Materials consumed in R&D projects
59,000
Consulting fees paid to outsiders for R&D projects
100,000
Personnel costs of persons involved in R&D projects
128,000
Indirect costs reasonably allocable to R&D projects
50,000
Materials purchased for future R&D projects
34,000
Instructions
Compute the amount to be reported as research and development expense by Martinez on its income statement for 2012. Assume equipment is purchased at the beginning of the year.
(Depreciation—Replacement, Change in Estimate) Peloton Company constructed a building at a cost of $2,400,000 and occupied it beginning in January 1993. It was estimated at that time that its life would be 40 years, with no salvage value. In January 2013, a new roof was installed at a cost of $300,000, and it was estimated then that the building would have a useful life of 25 years from that date. The cost of the old roof was $180,000.
Instructions
(a) What amount of depreciation should have been charged annually from the years 1993 to 2012?
(b) What entry should be made in 2013 to record the replacement of the roof?
(c) Prepare the entry in January 2013, to record the revision in the estimated life of the building, if necessary.
(d) What amount of depreciation should be charged for the year 2013?
(Depreciation for Fractional Periods) On March 10, 2014, No Doubt Company sells equipment that it purchased for $240,000 on August 20, 2007. It was originally estimated that the equipment would have a life of 12 years and a salvage value of $21,000 at the end of that time, and depreciation has been computed on that basis. The company uses the straight line method of depreciation.
Instructions
(a) Compute the depreciation charge on this equipment for 2007, for 2014, and the total charge for the period from 2008 to 2013, inclusive, under each of the six following assumptions with respect to partial periods.
(1) Depreciation is computed for the exact period of time during which the asset is owned.
(2) Depreciation is computed for the full year on the January 1 balance in the asset account.
(3) Depreciation is computed for the full year on the December 31 balance in the asset account.
(4) Depreciation for one half year is charged on plant assets acquired or disposed of during the year.
(5) Depreciation is computed on additions from the beginning of the month following acquisition and on disposals to the beginning of the month following disposal.
(6) Depreciation is computed for a full period on all assets in use for over one half year, and no depreciation is charged on assets in use for less than one half year.
(b) Briefly evaluate the methods above, considering them from the point of view of basic accounting theory as well as simplicity of application.
(Impairment) Presented below is information related to equipment owned by Pujols Company at December 31, 2012.
Cost
$9,000,000
Accumulated depreciation to date
1,000,000
Expected future net cash flows
7,000,000
Fair value
4,400,000
Assume that Pujols will continue to use this asset in the future. As of December 31, 2012, the equipment has a remaining useful life of 4 years.
Instructions
(a) Prepare the journal entry (if any) to record the impairment of the asset at December 31, 2012.
(b) Prepare the journal entry to record depreciation expense for 2013.
(c) The fair value of the equipment at December 31, 2013, is $5,100,000. Prepare the journal entry (if any) necessary to record this increase in fair value.
(Impairment) The management of Sprague Inc. was discussing whether certain equipment should be written off as a charge to current operations because of obsolescence. This equipment has a cost of $900,000 with depreciation to date of $400,000 as of December 31, 2012. On December 31, 2012, management projected its future net cash flows from this equipment to be $300,000 and its fair value to be $280,000. The company intends to use this equipment in the future.
Instructions
(a) Prepare the journal entry (if any) to record the impairment at December 31, 2012.
(b) Where should the gain or loss (if any) on the write down be reported in the income statement?
(c) At December 31, 2013, the equipment’s fair value increased to $300,000. Prepare the journal entry (if any) to record this increase in fair value.
(d) What accounting issues did management face in accounting for this impairment?
(Depletion Computations—Timber) Hernandez Timber Company owns 9,000 acres of timberland purchased in 2001 at a cost of $1,400 per acre. At the time of purchase, the land without the timber was valued at $400 per acre. In 2002, Hernandez built fire lanes and roads, with a life of 30 years, at a cost of $87,000. Every year, Hernandez sprays to prevent disease at a cost of $3,000 per year and spends $7,000 to maintain the fire lanes and roads. During 2003, Hernandez selectively logged and sold 700,000 board feet of timber, of the estimated 3,000,000 board feet. In 2004, Hernandez planted new seedlings to replace the trees cut at a cost of $100,000.
Instructions
(a) Determine the depreciation expense and the cost of timber sold related to depletion for 2003.
(b) Hernandez has not logged since 2003. If Hernandez logged and sold 900,000 board feet of timber in 2014, when the timber cruise (appraiser) estimated 5,000,000 board feet, determine the cost of timber sold related to depletion for 2014.
(Depletion Computations—Oil) Federer Drilling Company has leased property on which oil has been discovered. Wells on this property produced 18,000 barrels of oil during the past year that sold at an average sales price of $65 per barrel. Total oil resources of this property are estimated to be 250,000 barrels.
The lease provided for an outright payment of $600,000 to the lessor (owner) before drilling could be commenced and an annual rental of $31,500. A premium of 5% of the sales price of every barrel of oil removed is to be paid annually to the lessor. In addition, Federer (lessee) is to clean up all the waste and debris from drilling and to bear the costs of reconditioning the land for farming when the wells are abandoned. The estimated fair value, at the time of the lease, of this clean up and reconditioning is $30,000.
Instructions
From the provisions of the lease agreement, compute the cost per barrel for the past year, exclusive of operating costs, to Federer Drilling Company.
(Depletion Computations—Mining) Henrik Mining Company purchased land on February 1, 2012, at a cost of $1,250,000. It estimated that a total of 60,000 tons of mineral was available for mining. After it has removed all the natural resources, the company will be required to restore the property to its previous state because of strict environmental protection laws. It estimates the fair value of this restoration obligation at $90,000. It believes it will be able to sell the property afterwards for $100,000. It incurred developmental costs of $200,000 before it was able to do any mining. In 2012, resources removed totaled 30,000 tons. The company sold 24,000 tons.
Instructions
Compute the following information for 2012.
(a) Per unit mineral cost.
(b) Total material cost of December 31, 2012, inventory.
(c) Total materials cost in cost of goods sold at December 31, 2012.
(Depletion Computations—Minerals) At the beginning of 2012, Callaway Company acquired a mine for $850,000. Of this amount, $100,000 was ascribed to the land value and the remaining portion to the minerals in the mine. Surveys conducted by geologists have indicated that approximately 12,000,000 units of the ore appear to be in the mine. Call away incurred $170,000 of development costs associated with this mine prior to any extraction of minerals. It also determined that the fair value of its obligation to prepare the land for an alternative use when the entire mineral has been removed was $40,000. During 2012, 2,500,000 units of ore were extracted and 2,200,000 of these units were sold.
Instructions
Compute the following.
(a) The total amount of depletion for 2012.
(b) The amount that is charged as an expense for 2012 for the cost of the minerals sold during 2012.
(Book vs. Tax (MACRS) Depreciation) Annunzio Enterprises purchased a delivery truck on January 1, 2012, at a cost of $41,000. The truck has a useful life of 7 years with an estimated salvage value of $6,000. The straight line method is used for book purposes. For tax purposes the truck, having an MACRS class life of 7 years, is classified as 5 year property; the MACRS tax rate tables are used to compute depreciation. In addition, assume that for 2012 and 2013 the company has revenues of $200,000 and operating expenses (excluding depreciation) of $130,000.
Instructions
(a) Prepare income statements for 2012 and 2013. (The final amount reported on the income statement should be income before income taxes.)
(b) Compute taxable income for 2012 and 2013.
(c) Determine the total depreciation to be taken over the useful life of the delivery truck for both book and tax purposes.
(d) Explain why depreciation for book and tax purposes will generally be different over the useful life of a depreciable asset.
(Book vs. Tax (MACRS) Depreciation) Elwood Inc. purchased computer equipment on March 1, 2012, for $36,000. The computer equipment has a useful life of 10 years and a salvage value of $3,000. For tax purposes, the MACRS class life is 5 years.
Instructions
(a) Assuming that the company uses the straight line method for book and tax purposes, what is the depreciation expense reported in (1) the financial statements for 2012 and (2) the tax return for 2012?
(b) Assuming that the company uses the double declining balance method for both book and tax purposes, what is the depreciation expense reported in (1) the financial statements for 2012 and (2) the tax return for 2012?
(c) Why is depreciation for tax purposes different from depreciation for book purposes even if the company uses the same depreciation method to compute them both?
(Depreciation for Partial Period—SL, SYD, and DDB) Alladin Company purchased Machine #201 on May 1, 2012. The following information relating to Machine #201 was gathered at the end of May.
Price
$85,000
Credit terms
2/10, n/30
Freight in costs
$ 800
Preparation and installation costs
$ 3,800
Labor costs during regular production operations
$10,500
It was expected that the machine could be used for 10 years, after which the salvage value would be zero. Alladin intends to use the machine for only 8 years, however, after which it expects to be able to sell it for $1,500. The invoice for Machine #201 was paid May 5, 2012. Alladin uses the calendar year as the basis for the preparation of financial statements.
Instructions
(a) Compute the depreciation expense for the years indicated using the following methods.
(1) Straight line method for 2012.
(2) Sum of the years’ digits method for 2013.
(3) Double declining balance method for 2012.
(b) Suppose Kate Crow, the president of Alladin, tells you that because the company is a new organization, she expects it will be several years before production and sales reach optimum levels. She asks you to recommend a depreciation method that will allocate less of the company’s depreciation expense to the early years and more to later years of the assets’ lives. What method would you recommend?
(Depreciation for Partial Periods—SL, Act., SYD, and DDB) The cost of equipment purchased by Charleston, Inc., on June 1, 2012, is $89,000. It is estimated that the machine will have a $5,000 salvage value at the end of its service life. Its service life is estimated at 7 years; its total working hours are estimated at 42,000; and its total production is estimated at 525,000 units. During 2012, the machine was operated 6,000 hours and produced 55,000 units. During 2013, the machine was operated 5,500 hours and produced 48,000 units.
Instructions
Compute depreciation expense on the machine for the year ending December 31, 2012, and the year ending December 31, 2013, using the following methods.
(a) Straight line.
(b) Units of output.
(c) Working hours.
(d) Sum of the years’ digits.
(e) Declining balance (twice the straight line rate).
(Depreciation and Error Analysis) A depreciation schedule for semi trucks of Ichiro Manufacturing Company was requested by your auditor soon after December 31, 2013, showing the additions, retirements, depreciation, and other data affecting the income of the company in the 4 year period 2010 to 2013, inclusive. The following data were ascertained.
Balance of Trucks account, Jan. 1, 2010
Truck No. 1 purchased Jan. 1, 2007, cost
$18,000
Truck No. 2 purchased July 1, 2007, cost
22,000
Truck No. 3 purchased Jan. 1, 2009, cost
30,000
Truck No. 4 purchased July 1, 2009, cost
24,000
Balance, Jan. 1, 2010
$94,000
The Accumulated Depreciation—Trucks account previously adjusted to January 1, 2010, and entered in the ledger, had a balance on that date of $30,200 (depreciation on the four trucks from the respective dates of purchase, based on a 5 year life, no salvage value). No charges had been made against the account before January 1, 2010. Transactions between January 1, 2010, and December 31, 2013, which were recorded in the ledger, are as follows.
July 1, 2010
Truck No. 3 was traded for a larger one (No. 5), the agreed purchase price of which was $40,000. Ichiro Mfg. Co. paid the automobile dealer $22,000 cash on the transaction. The entry was a debit to Trucks and a credit to Cash, $22,000. The transaction has commercial substance.
Jan. 1, 2011
Truck No. 1 was sold for $3,500 cash; entry debited Cash and credited Trucks, $3,500.
July 1, 2012
A new truck (No. 6) was acquired for $42,000 cash and was charged at that amount to the Trucks account. (Assume truck No. 2 was not retired.)
July 1, 2012
Truck No. 4 was damaged in a wreck to such an extent that it was sold as junk for $700 cash. Ichiro Mfg. Co. received $2,500 from the insurance company. The entry made by the bookkeeper was a debit to Cash, $3,200, and credits to Miscellaneous Income, $700, and Trucks, $2,500.
Entries for depreciation had been made at the close of each year as follows: 2010, $21,000; 2011, $22,500; 2012, $25,050; 2013, $30,400.
Instructions
(a) For each of the 4 years, compute separately the increase or decrease in net income arising from the company’s errors in determining or entering depreciation or in recording transactions affecting trucks, ignoring income tax considerations.
(b) Prepare one compound journal entry as of December 31, 2013, for adjustment of the Trucks account to reflect the correct balances as revealed by your schedule, assuming that the books have not been closed for 2013.
(Depletion and Depreciation—Mining) Khamsah Mining Company has purchased a tract of mineral land for $900,000. It is estimated that this tract will yield 120,000 tons of ore with sufficient mineral content to make mining and processing profitable. It is further estimated that 6,000 tons of ore will be mined the first and last year and 12,000 tons every year in between. The land will have a residual value of $30,000. The company builds necessary structures and sheds on the site at a cost of $36,000. It is estimated that these structures can serve 15 years but, because they must be dismantled if they are to be moved, they have no salvage value. The company does not intend to use the buildings elsewhere. Mining machinery installed at the mine was purchased secondhand at a cost of $60,000. This machinery cost the former owner $150,000 and was 50% depreciated when purchased. Khamsah Mining estimates that about half of this machinery will still be useful when the present mineral resources have been exhausted but that dismantling and removal costs will just about offset its value at that time. The company does not intend to use the machinery elsewhere. The remaining machinery will last until about one half the present estimated mineral ore has been removed and will then be worthless. Cost is to be allocated equally between these two classes of machinery.
Instructions
(a) As chief accountant for the company, you are to prepare a schedule showing estimated depletion and depreciation costs for each year of the expected life of the mine.
(b) Also compute the depreciation and depletion for the first year assuming actual production of 5,000 tons. Nothing occurred during the year to cause the company engineers to change their estimates of either the mineral resources or the life of the structures and equipment.
(Depletion, Timber, and Extraordinary Loss) Conan O’Brien Logging and Lumber Company owns 3,000 acres of timberland on the north side of Mount Leno, which was purchased in 2000 at a cost of $550 per acre. In 2012, O’Brien began selectively logging this timber tract. In May of 2012, Mount Leno erupted, burying the timberland of O’Brien under a foot of ash. All of the timber on the O’Brien tract was downed. In addition, the logging roads, built at a cost of $150,000, were destroyed, as well as the logging equipment, with a net book value of $300,000. At the time of the eruption, O’Brien had logged 20% of the estimated 500,000 board feet of timber. Prior to the eruption, O’Brien estimated the land to have a value of $200 per acre after the timber was harvested. O’Brien includes the logging roads in the depletion base. O’Brien estimates it will take 3 years to salvage the downed timber at a cost of $700,000. The timber can be sold for pulp wood at an estimated price of $3 per board foot. The value of the land is unknown, but must be considered nominal due to future uncertainties.
Instructions
(a) Determine the depletion cost per board foot for the timber harvested prior to the eruption of Mount Leno.
(b) Prepare the journal entry to record the depletion prior to the eruption.
(c) If this tract represents approximately half of the timber holdings of O’Brien, determine the amount of the extraordinary loss due to the eruption of Mount Leno for the year ended December 31, 2012.
(Impairment) Roland Company uses special strapping equipment in its packaging business. The equipment was purchased in January 2011 for $10,000,000 and had an estimated useful life of 8 years with no salvage value. At December 31, 2012, new technology was introduced that would accelerate the obsolescence of Roland’s equipment. Roland’s controller estimates that expected future net cash flows on the equipment will be $6,300,000 and that the fair value of the equipment is $5,600,000. Roland intends to continue using the equipment, but it is estimated that the remaining useful life is 4 years. Roland uses straight line depreciation.
Instructions
(a) Prepare the journal entry (if any) to record the impairment at December 31, 2012.
(b) Prepare any journal entries for the equipment at December 31, 2013. The fair value of the equipment at December 31, 2013, is estimated to be $5,900,000.
(c) Repeat the requirements for (a) and (b), assuming that Roland intends to dispose of the equipment and that it has not been disposed of as of December 31, 2013.
(Depreciation for Partial Periods—SL, Act., SYD, and DDB) On January 1, 2010, a machine was purchased for $90,000. The machine has an estimated salvage value of $6,000 and an estimated useful life of 5 years. The machine can operate for 100,000 hours before it needs to be replaced. The company closed its books on December 31 and operates the machine as follows: 2010, 20,000 hrs; 2011, 25,000 hrs; 2012, 15,000 hrs; 2013, 30,000 hrs; 2014, 10,000 hrs.
Instructions
(a) Compute the annual depreciation charges over the machine’s life assuming a December 31 year end for each of the following depreciation methods.
(1) Straight line method.
(2) Activity method.
(3) Sum of the years’ digits method.
(4) Double declining balance method.
(b) Assume a fiscal year end of September 30. Compute the annual depreciation charges over the asset’s life applying each of the following methods.
(Depreciation—SL, DDB, SYD, Act., and MACRS) On January 1, 2011, Locke Company, a small machine tool manufacturer, acquired for $1,260,000 a piece of new industrial equipment. The new equipment had a useful life of 5 years, and the salvage value was estimated to be $60,000. Locke estimates that the new equipment can produce 12,000 machine tools in its first year. It estimates that production will decline by 1,000 units per year over the remaining useful life of the equipment. The following depreciation methods may be used: (1) straight line; (2) double declining balance; (3) sum of the years’ digits; and (4) units of output. For tax purposes, the class life is 7 years. Use the MACRS tables for computing depreciation.
Instructions
(a) Which depreciation method would maximize net income for financial statement reporting for the 3 year period ending December 31, 2013? Prepare a schedule showing the amount of accumulated depreciation at December 31, 2013, under the method selected. Ignore present value, income tax, and deferred income tax considerations.
(b) Which depreciation method (MACRS or optional straight line) would minimize net income for income tax reporting for the 3 year period ending December 31, 2013? Determine the amount of accumulated depreciation at December 31, 2013. Ignore present value considerations.
(Depreciation Basic Concepts) Burnitz Manufacturing Company was organized January 1, 2012. During 2012, it has used in its reports to management the straight line method of depreciating its plant assets. On November 8, you are having a conference with Burnitz’s officers to discuss the depreciation method to be used for income tax and stockholder reporting. James Bryant, president of Burnitz, has suggested the use of a new method, which he feels is more suitable than the straight line method for the needs of the company during the period of rapid expansion of production and capacity that he foresees. Following is an example in which the proposed method is applied to a fixed asset with an original cost of $248,000, an estimated useful life of 5 years, and a salvage value of approximately $8,000.
Year
Years of Life Used
Fraction Rate
Depreciation Expense
Accumulated Depreciation at End of Year
Book Value at End of Year
1
1
1/15
$16,000
$ 16,000
$232,000
2
2
2/15
32,000
48,000
200,000
3
3
3/15
48,000
96,000
152,000
4
4
4/15
64,000
160,000
88,000
5
5
5/15
80,000
240,000
8,000
The president favors the new method because he has heard that:
1. It will increase the funds recovered during the years near the end of the assets’ useful lives when maintenance and replacement disbursements are high.
2. It will result in increased write offs in later years and thereby will reduce taxes.
Instructions
(a) What is the purpose of accounting for depreciation?
(b) Is the president’s proposal within the scope of generally accepted accounting principles? In making your decision discuss the circumstances, if any, under which use of the method would be reasonable and those, if any, under which it would not be reasonable.
(c) The president wants your advice on the following issues.
(1) Do depreciation charges recover or create funds? Explain.
(2) Assume that the Internal Revenue Service accepts the proposed depreciation method in this case. If the proposed method were used for stockholder and tax reporting purposes, how would it affect the availability of cash flows generated by operations?
(Classification of Acquisition Costs) Selected accounts included in the property, plant, and equipment section of Lobo Corporation’s balance sheet at December 31, 2011, had the following balances.
Land
$ 300,000
Land improvements
140,000
Buildings
1,100,000
Equipment
960,000
During 2012, the following transactions occurred.
1. A tract of land was acquired for $150,000 as a potential future building site.
2. A plant facility consisting of land and building was acquired from Mendota Company in exchange for 20,000 shares of Lobo’s common stock. On the acquisition date, Lobo’s stock had a closing market price of $37 per share on a national stock exchange. The plant facility was carried on Mendota’s books at $110,000 for land and $320,000 for the building at the exchange date. Current appraised values for the land and building, respectively, are $230,000 and $690,000.
3. Items of machinery and equipment were purchased at a total cost of $400,000. Additional costs were incurred as follows.
Freight and unloading
$13,000
Sales taxes
20,000
Installation
26,000
4. Expenditures totaling $95,000 were made for new parking lots, streets, and sidewalks at the corporation’s various plant locations. These expenditures had an estimated useful life of 15 years.
5. A machine costing $80,000 on January 1, 2004, was scrapped on June 30, 2012. Double declining balance depreciation has been recorded on the basis of a 10 year life.
6. A machine was sold for $20,000 on July 1, 2012. Original cost of the machine was $44,000 on January 1, 2009, and it was depreciated on the straight line basis over an estimated useful life of 7 years and a salvage value of $2,000.
Instructions
(a) Prepare a detailed analysis of the changes in each of the following balance sheet accounts for 2012.
Land
Land improvements
Buildings
Equipment
(b) List the items in the fact situation that were not used to determine the answer to (a), showing the pertinent amounts and supporting computations in good form for each item. In addition, indicate where, or if, these items should be included in Lobo’s financial statements.
(Classification of Costs and Interest Capitalization) On January 1, 2012, Blair Corporation purchased for $500,000 a tract of land (site number 101) with a building. Blair paid a real estate broker’s commission of $36,000, legal fees of $6,000, and title guarantee insurance of $18,000. The closing statement indicated that the land value was $500,000 and the building value was $100,000. Shortly after acquisition, the building was razed at a cost of $54,000. Blair entered into a $3,000,000 fixed price contract with Slatkin Builders, Inc. on March 1, 2012, for the construction of an office building on land site number 101. The building was completed and occupied on September 30, 2013. Additional construction costs were incurred as follows.
Plans, specifications, and blueprints
$21,000
Architects’ fees for design and supervision
82,000
The building is estimated to have a 40 year life from date of completion and will be depreciated using the 150% declining balance method. To finance construction costs, Blair borrowed $3,000,000 on March 1, 2012. The loan is payable in 10 annual installments of $300,000 plus interest at the rate of 10%. Blair’s weighted average amounts of accumulated building construction expenditures were as follows.
For the period March 1 to December 31, 2012
$1,300,000
For the period January 1 to September 30, 2013
1,900,000
Instructions
(a) Prepare a schedule that discloses the individual costs making up the balance in the land account in respect of land site number 101 as of September 30, 2013.
(b) Prepare a schedule that discloses the individual costs that should be capitalized in the office building account as of September 30, 2013. Show supporting computations in good form.
(Interest During Construction) Grieg Landscaping began construction of a new plant on December 1, 2012. On this date, the company purchased a parcel of land for $139,000 in cash. In addition, it paid $2,000 in surveying costs and $4,000 for a title insurance policy. An old dwelling on the premises was demolished at a cost of $3,000, with $1,000 being received from the sale of materials. Architectural plans were also formalized on December 1, 2012, when the architect was paid $30,000. The necessary building permits costing $3,000 were obtained from the city and paid for on December 1 as well. The excavation work began during the first week in December with payments made to the contractor as follows.
Date of Payment
Amount of Payment
March 1
$240,000
May 1
330,000
July 1
60,000
The building was completed on July 1, 2013. To finance construction of this plant, Grieg borrowed $600,000 from the bank on December 1, 2012. Grieg had no other borrowings. The $600,000 was a 10 year loan bearing interest at 8%.
Instructions
Compute the balance in each of the following accounts at December 31, 2012, and December 31, 2013.
(Capitalization of Interest) Laserwords Inc. is a book distributor that had been operating in its original facility since 1985. The increase in certification programs and continuing education requirements in several professions has contributed to an annual growth rate of 15% for Laserwords since 2007. Laserwords’ original facility became obsolete by early 2012 because of the increased sales volume and the fact that Laserwords now carries CDs in addition to books. On June 1, 2012, Laserwords contracted with Black Construction to have a new building constructed for $4,000,000 on land owned by Laserwords. The payments made by Laserwords to Black Construction are shown in the schedule below.
Date
Amount
July 30, 2012
$ 900,000
January 30, 2013
1,500,000
May 30, 2013
1,600,000
Total payments
$4,000,000
Construction was completed and the building was ready for occupancy on May 27, 2013. Laserwords had no new borrowings directly associated with the new building but had the following debt outstanding at May 31, 2013, the end of its fiscal year. 10%, 5 year note payable of $2,000,000, dated April 1, 2009, with interest payable annually on April 1.
12%, 10 year bond issue of $3,000,000 sold at par on June 30, 2005, with interest payable annually on June 30. The new building qualifies for interest capitalization. The effect of capitalizing the interest on the new building, compared with the effect of expensing the interest, is material.
Instructions
(a) Compute the weighted average accumulated expenditures on Laserwords’ new building during the capitalization period.
(b) Compute the avoidable interest on Laserwords’ new building.
(c) Some interest cost of Laserwords Inc. is capitalized for the year ended May 31, 2013.
(1) Identify the items relating to interest costs that must be disclosed in Laserwords’ financial statements.
(2) Compute the amount of each of the items that must be disclosed.
(Nonmonetary Exchanges) Holyfield Corporation wishes to exchange a machine used in its operations. Holyfield has received the following offers from other companies in the industry.
1. Dorsett Company offered to exchange a similar machine plus $23,000. (The exchange has commercial substance for both parties.)
2. Winston Company offered to exchange a similar machine. (The exchange lacks commercial substance for both parties.)
3. Liston Company offered to exchange a similar machine, but wanted $3,000 in addition to Holyfield’s machine. (The exchange has commercial substance for both parties.) In addition, Holyfield contacted Greeley Corporation, a dealer in machines. To obtain a new machine, Holyfield must pay $93,000 in addition to trading in its old machine.
Holyfield
Dorsett
Winston
Liston
Greeley
Machine cost
$160,000
$120,000
$152,000
$160,000
$130,000
Accumulated depreciation
60,000
45,000
71,000
75,000
–0–
Fair value
92,000
69,000
92,000
95,000
185,000
Instructions
For each of the four independent situations, prepare the journal entries to record the exchange on the books of each company.
(Nonmonetary Exchanges) On August 1, Hyde, Inc. exchanged productive assets with Wiggins, Inc. Hyde’s asset is referred to below as “Asset A,” and Wiggins’ is referred to as “Asset B.” The following facts pertain to these assets.
Asset A
Asset B
Original cost
$96,000
110,000
Accumulated depreciation (to date of exchange)
40,000
47,000
Fair value at date of exchange
60,000
75,000
Cash paid by Hyde, Inc.
15,000
Cash received by Wiggins, Inc.
15000
Instructions
(a) Assuming that the exchange of Assets A and B has commercial substance, record the exchange for both Hyde, Inc. and Wiggins, Inc. in accordance with generally accepted accounting principles.
(b) Assuming that the exchange of Assets A and B lacks commercial substance, record the exchange for both Hyde, Inc. and Wiggins, Inc. in accordance with generally accepted accounting principles.
(Nonmonetary Exchanges) During the current year, Marshall Construction trades an old crane that has a book value of $90,000 (original cost $140,000 less accumulated depreciation $50,000) for a new crane from Brigham Manufacturing Co. The new crane cost Brigham $165,000 to manufacture and is classified as inventory. The following information is also available.
Marshall Const.
Brigham Mfg. Co.
Fair value of old crane
$ 82,000
Fair value of new crane
$200,000
Cash paid
118,000
Cash received
118,000
Instructions
(a) Assuming that this exchange is considered to have commercial substance, prepare the journal entries on the books of (1) Marshall Construction and (2) Brigham Manufacturing.
(b) Assuming that this exchange lacks commercial substance for Marshall, prepare the journal entries on the books of Marshall Construction.
(c) Assuming the same facts as those in (a), except that the fair value of the old crane is $98,000 and the cash paid is $102,000, prepare the journal entries on the books of (1) Marshall Construction and (2) Brigham Manufacturing.
(d) Assuming the same facts as those in (b), except that the fair value of the old crane is $97,000 and the cash paid $103,000, prepare the journal entries on the books of (1) Marshall Construction and (2) Brigham Manufacturing.
Klamath Company, a manufacturer of ballet shoes, is experiencing a period of sustained growth. In an effort to expand its production capacity to meet the increased demand for its product, the company recently made several acquisitions of plant and equipment. Rob Joffrey, newly hired in the position of fixed asset accountant, requested that Danny Nolte, Klamath’s controller, review the following transactions.
Transaction 1
On June 1, 2012, Klamath Company purchased equipment from Wyandot Corporation. Klamath issued a $28,000, 4 year, zero interest bearing note to Wyandot for the new equipment. Klamath will pay off the note in four equal installments due at the end of each of the next 4 years. At the date of the transaction, the prevailing market rate of interest for obligations of this nature was 10%. Freight costs of $425 and installation costs of $500 were incurred in completing this transaction. The appropriate factors for the time value of money at a 10% rate of interest are given below.
Future value of $1 for 4 periods
1.46
Future value of an ordinary annuity for 4 periods
4.64
Present value of $1 for 4 periods
0.68
Present value of an ordinary annuity for 4 periods
3.17
Transaction 2
On December 1, 2012, Klamath Company purchased several assets of Yakima Shoes Inc., a small shoe manufacturer whose owner was retiring. The purchase amounted to $220,000 and included the assets listed below. Klamath Company engaged the services of Tennyson Appraisal Inc., an independent appraiser, to determine the fair values of the assets which are also presented below.
Yakima Book Value
Fair Value
Inventory
$ 60,000
$ 50,000
Land
40,000
80,000
Buildings
70,000
120,000
$170,000
$250,000
During its fiscal year ended May 31, 2013, Klamath incurred $8,000 for interest expense in connection with the financing of these assets.
Transaction 3
On March 1, 2013, Klamath Company exchanged a number of used trucks plus cash for vacant land adjacent to its plant site. (The exchange has commercial substance.) Klamath intends to use the land for a parking lot. The trucks had a combined book value of $35,000, as Klamath had recorded $20,000 of accumulated depreciation against these assets. Klamath’s purchasing agent, who has had previous dealings in the secondhand market, indicated that the trucks had a fair value of $46,000 at the time of the transaction. In addition to the trucks, Klamath Company paid $19,000 cash for the land.
Instructions
(a) Plant assets such as land, buildings, and equipment receive special accounting treatment. Describe the major characteristics of these assets that differentiate them from other types of assets.
(b) For each of the three transactions described above, determine the value at which Klamath Company should record the acquired assets. Support your calculations with an explanation of the underlying rationale.
(c) The books of Klamath Company show the following additional transactions for the fiscal year ended May 31, 2013.
(1) Acquisition of a building for speculative purposes.
(2) Purchase of a 2 year insurance policy covering plant equipment.
(3) Purchase of the rights for the exclusive use of a process used in the manufacture of ballet shoes. For each of these transactions, indicate whether the asset should be classified as a plant asset. If it is a plant asset, explain why it is. If it is not a plant asset, explain why not, and identify the proper classification.
(Acquisition, Improvements, and Sale of Realty) Tonkawa Company purchased land for use as its corporate headquarters. A small factory that was on the land when it was purchased was torn down before construction of the office building began. Furthermore, a substantial amount of rock blasting and removal had to be done to the site before construction of the building foundation began. Because the office building was set back on the land far from the public road, Tonkawa Company had the contractor construct a paved road that led from the public road to the parking lot of the office building. Three years after the office building was occupied, Tonkawa Company added four stories to the office building. The four stories had an estimated useful life of 5 years more than the remaining estimated useful life of the original office building. Ten years later, the land and building were sold at an amount more than their net book value, and Tonkawa Company had a new office building constructed in another state for use as its new corporate headquarters.
Instructions
(a) Which of the expenditures above should be capitalized? How should each be depreciated or amortized? Discuss the rationale for your answers.
(b) How would the sale of the land and building be accounted for? Include in your answer an explanation of how to determine the net book value at the date of sale. Discuss the rationale for your answer.
(Capitalization of Interest) Langer Airline is converting from piston type planes to jets. Delivery time for the jets is 3 years, during which substantial progress payments must be made. The multimillion dollar cost of the planes cannot be financed from working capital; Langer must borrow funds for the payments. Because of high interest rates and the large sum to be borrowed, management estimates that interest costs in the second year of the period will be equal to one third of income before interest and taxes, and one half of such income in the third year. After conversion, Langer’s passenger carrying capacity will be doubled with no increase in the number of planes, although the investment in planes would be substantially increased. The jet planes have a 7 year service life.
Instructions
Give your recommendation concerning the proper accounting for interest during the conversion period. Support your recommendation with reasons and suggested accounting treatment.
(Capitalization of Interest) Vania Magazine Company started construction of a warehouse building for its own use at an estimated cost of $5,000,000 on January 1, 2011, and completed the building on December 31, 2011. During the construction period, Vania has the following debt obligations outstanding. Construction loan—12% interest, payable semiannually, issued December 31, 2010 $2,000,000 Short term loan—10% interest, payable monthly, and principal payable at maturity, on May 30, 2012 1,400,000 Long term loan—11% interest, payable on January 1 of each year. Principal payable on January 1, 2014 1,000,000 Total cost amounted to $5,200,000, and the weighted average of accumulated expenditures was $3,500,000. Jane Esplanade, the president of the company, has been shown the costs associated with this construction project and capitalized on the balance sheet. She is bothered by the “avoidable interest” included in the cost. She argues that, first, all the interest is unavoidable—no one lends money without expecting to be compensated for it. Second, why can’t the company use all the interest on all the loans when computing this avoidable interest? Finally, why can’t her company capitalize all the annual interest that accrued over the period of construction?
Instructions
You are the manager of accounting for the company. In a memo, explain what avoidable interest is, how you computed it (being especially careful to explain why you used the interest rates that you did), and why the company cannot capitalize all its interest for the year. Attach a schedule supporting any computations that you use.
(Nonmonetary Exchanges) You have two clients that are considering trading machinery with each other. Although the machines are different from each other, you believe that an assessment of expected cash flows on the exchanged assets will indicate the exchange lacks commercial substance. Your clients would prefer that the exchange be deemed to have commercial substance, to allow them to record gains. Here are the facts:
Client A
Client B
Original cost
$100,000
$150,000
Accumulated depreciation
40,000
80,000
Fair value
80,000
100,000
Cash received (paid)
(20,000)
20,000
Instructions
(a) Record the trade in on Client A’s books assuming the exchange has commercial substance.
(b) Record the trade in on Client A’s books assuming the exchange lacks commercial substance.
(c) Write a memo to the controller of Company A indicating and explaining the dollar impact on current and future statements of treating the exchange as having versus lacking commercial substance.
(d) Record the entry on Client B’s books assuming the exchange has commercial substance.
(e) Record the entry on Client B’s books assuming the exchange lacks commercial substance.
(f) Write a memo to the controller of Company B indicating and explaining the dollar impact on current and future statements of treating the exchange as having versus lacking commercial substance.
(Costs of Acquisition) The invoice price of a machine is $50,000. Various other costs relating to the acquisition and installation of the machine including transportation, electrical wiring, special base, and so on amount to $7,500. The machine has an estimated life of 10 years, with no residual value at the end of that period. The owner of the business suggests that the incidental costs of $7,500 be charged to expense immediately for the following reasons. 1. If the machine should be sold, these costs cannot be recovered in the sales price.
2. The inclusion of the $7,500 in the machinery account on the books will not necessarily result in a closer approximation of the market price of this asset over the years, because of the possibility of changing demand and supply levels.
3. Charging the $7,500 to expense immediately will reduce federal income taxes.
Instructions
Discuss each of the points raised by the owner of the business.
(Cost of Land vs. Building—Ethics) Tones Company purchased a warehouse in a downtown district where land values are rapidly increasing. Gerald Carter, controller, and Wilma Ankara, financial vice president, are trying to allocate the cost of the purchase between the land and the building. Noting that depreciation can be taken only on the building, Carter favors placing a very high proportion of the cost on the warehouse itself, thus reducing taxable income and income taxes. Ankara, his supervisor, argues that the allocation should recognize the increasing value of the land, regardless of the depreciation potential of the warehouse. Besides, she says, net income is negatively impacted by additional depreciation and will cause the company’s stock price to go down.
(Depreciation—Conceptual Understanding) Hassel back Company acquired a plant asset at the beginning of Year 1. The asset has an estimated service life of 5 years. An employee has prepared depreciation schedules for this asset using three different methods to compare the results of using one method with the results of using other methods. You are to assume that the following schedules have been correctly prepared for this asset using (1) the straight line method, (2) the sum of the years’ digits method, and (3) the double declining balance method.
Year
Straight Line
Sum of the Years’ Digits
Double Declining Balance
1
$ 9,000
$15,000
$20,000
2
9,000
12,000
12,000
3
9,000
9,000
7,200
4
9,000
6,000
4,320
5
9,000
3,000
1,480
Total
$45,000
$45,000
$45,000
Instructions
Answer the following questions.
(a) What is the cost of the asset being depreciated?
(b) What amount, if any, was used in the depreciation calculations for the salvage value for this asset?
(c) Which method will produce the highest charge to income in Year 1?
(d) Which method will produce the highest charge to income in Year 4?
(e) Which method will produce the highest book value for the asset at the end of Year 3?
(f) If the asset is sold at the end of Year 3, which method would yield the highest gain (or lowest loss) on disposal of the asset?
(Depreciation Computations—Five Methods, Partial Periods) Agazzi Company purchased equipment for $304,000 on October 1, 2012. It is estimated that the equipment will have a useful life of 8 years and a salvage value of $16,000. Estimated production is 40,000 units and estimated working hours are 20,000. During 2012, Agazzi uses the equipment for 525 hours and the equipment produces 1,000 units.
Instructions
Compute depreciation expense under each of the following methods. Agazzi is on a calendar year basis ending December 31.
(Depreciation Computation—Replacement, Nonmonetary Exchange) Goldman Corporation bought a machine on June 1, 2010, for $31,800, f.o.b. the place of manufacture. Freight to the point where it was set up was $200, and $500 was expended to install it. The machine’s useful life was estimated at 10 years, with a salvage value of $2,500. On June 1, 2011, an essential part of the machine is replaced, at a cost of $2,700, with one designed to reduce the cost of operating the machine. The cost of the old part and related depreciation cannot be determined with any accuracy. On June 1, 2014, the company buys a new machine of greater capacity for $35,000, delivered, trading in the old machine which has a fair value and trade in allowance of $20,000. To prepare the old machine for removal from the plant cost $75, and expenditures to install the new one were $1,500. It is estimated that the new machine has a useful life of 10 years, with a salvage value of $4,000 at the end of that time. The exchange has commercial substance.
Instructions
Assuming that depreciation is to be computed on the straight line basis, compute the annual depreciation on the new equipment that should be provided for the fiscal year beginning June 1, 2014.
(Composite Depreciation) Presented below is information related to Morrow Manufacturing Corporation.
Machine
Cost
Estimated Salvage Value
Estimated Life (in years)
A
$40,500
$5,500
10
B
33,600
4,800
9
C
36,000
3,600
8
D
19,000
1,500
7
E
23,500
2,500
6
Instructions
(a) Compute the rate of depreciation per year to be applied to the machines under the composite method.
(b) Prepare the adjusting entry necessary at the end of the year to record depreciation for the year.
(c) Prepare the entry to record the sale of Machine D for cash of $5,000. It was used for 6 years, and depreciation was entered under the composite method.
(Depreciation Computation—Addition, Change in Estimate) In 1985, Abraham Company completed the construction of a building at a cost of $1,900,000 and first occupied it in January 1986. It was estimated that the building will have a useful life of 40 years and a salvage value of $60,000 at the end of that time. Early in 1996, an addition to the building was constructed at a cost of $470,000. At that time, it was estimated that the remaining life of the building would be, as originally estimated, an additional 30 years, and that the addition would have a life of 30 years and a salvage value of $20,000. In 2014, it is determined that the probable life of the building and addition will extend to the end of 2045 or 20 years beyond the original estimate.
Instructions
(a) Using the straight line method, compute the annual depreciation that would have been charged from 1986 through 1995.
(b) Compute the annual depreciation that would have been charged from 1996 through 2013.
(c) Prepare the entry, if necessary, to adjust the account balances because of the revision of the estimated life in 2014.
(d) Compute the annual depreciation to be charged beginning with 2014.
Forest Products, Inc., buys and develops natural resources for profit. Since 2000, it has had the following activities:
1/1/00 Purchased for $800,000 a tract of timber estimated to contain 1,600,000 board feet of lumber.
1/1/01 Purchased for $600,000 a silver mine estimated to contain 30,000 tons of silver ore.
7/1/01 Purchased for $60,000 a uranium mine estimated to contain 5,000 tons of uranium ore.
1/1/02 Purchased for $500,000 an oil well estimated to contain 100,000 barrels of oil.
1. Provide the necessary journal entries to account for the following:
a. The purchase of these assets.
b. The depletion expense for 2002 on all four assets, assuming that the following were extracted:
(1) 200,000 board feet of lumber.
(2) 5,000 tons of silver.
(3) 1,000 tons of uranium.
(4) 10,000 barrels of oil.
2. Assume that on January 1, 2003, after 20,000 tons of silver had been mined, engineers estimates revealed that only 4,000 tons of silver remained. Record the depletion expense for 2003, assuming that 2,000 tons were mined.
3. Compute the book values of all four assets as of December 31, 2003, assuming that the total extracted to date is:
a. Timber tract, 800,000 board feet.
b. Silver mine, 22,000 tons [only 2,000 tons are left per (2)].
(Acquisition Costs of Realty) The expenditures and receipts below are related to land, land improvements, and buildings acquired for use in a business enterprise. The receipts are enclosed in parentheses.
(a)
Money borrowed to pay building contractor (signed a note)
$(275,000)
(b)
Payment for construction from note proceeds
275,000
(c)
Cost of land fill and clearing
10,000
(d)
Delinquent real estate taxes on property assumed by purchaser
7,000
(e)
Premium on 6 month insurance policy during construction
6,000
(f)
Refund of 1 month insurance premium because construction completed early
(1,000)
(g)
Architect’s fee on building
25,000
(h)
Cost of real estate purchased as a plant site (land $200,000 and building $50,000)
250,000
(i)
Commission fee paid to real estate agency
9,000
(j)
Installation of fences around property
4,000
(k)
Cost of razing and removing building
11,000
(l)
Proceeds from salvage of demolished building
(5,000)
(m)
Interest paid during construction on money borrowed for construction
13,000
(n)
Cost of parking lots and driveways
19,000
(o)
Cost of trees and shrubbery planted (permanent in nature)
14,000
(p)
Excavation costs for new building
3,000
Instructions
Identify each item by letter and list the items in columnar form, using the headings shown below. All receipt amounts should be reported in parentheses. For any amounts entered in the Other Accounts column, also indicate the account title.
(Acquisition Costs of Realty) Pollachek Co. purchased land as a factory site for $450,000. The process of tearing down two old buildings on the site and constructing the factory required 6 months. The company paid $42,000 to raze the old buildings and sold salvaged lumber and brick for $6,300. Legal fees of $1,850 were paid for title investigation and drawing the purchase contract. Pollachek paid $2,200 to an engineering firm for a land survey, and $65,000 for drawing the factory plans. The land survey had to be made before definitive plans could be drawn. Title insurance on the property cost $1,500, and a liability insurance premium paid during construction was $900. The contractor’s charge for construction was $2,740,000. The company paid the contractor in two installments: $1,200,000 at the end of 3 months and $1,540,000 upon completion. Interest costs of $170,000 were incurred to finance the construction.
Instructions
Determine the cost of the land and the cost of the building as they should be recorded on the books of Pollachek Co. Assume that the land survey was for the building.
(Acquisition Costs of Trucks) Shabbona Corporation operates a retail computer store. To improve delivery services to customers, the company purchases four new trucks on April 1, 2012. The terms of acquisition for each truck are described below.
1. Truck #1 has a list price of $15,000 and is acquired for a cash payment of $13,900.
2. Truck #2 has a list price of $20,000 and is acquired for a down payment of $2,000 cash and a zero interest bearing note with a face amount of $18,000. The note is due April 1, 2013. Shabbona would normally have to pay interest at a rate of 10% for such a borrowing, and the dealership has an incremental borrowing rate of 8%.
3. Truck #3 has a list price of $16,000. It is acquired in exchange for a computer system that Shabbona carries in inventory. The computer system cost $12,000 and is normally sold by Shabbona for $15,200. Shabbona uses a perpetual inventory system.
4. Truck #4 has a list price of $14,000. It is acquired in exchange for 1,000 shares of common stock in Shabbona Corporation. The stock has a par value per share of $10 and a market price of $13 per share.
Instructions
Prepare the appropriate journal entries for the foregoing transactions for Shabbona Corporation.
(Purchase and Self Constructed Cost of Assets) Dane Co. both purchases and constructs various equipment it uses in its operations. The following items for two different types of equipment were recorded in random order during the calendar year 2013.
Purchase
Cash paid for equipment, including sales tax of $5,000
$105,000
Freight and insurance cost while in transit
2,000
Cost of moving equipment into place at factory
3,100
Wage cost for technicians to test equipment
6,000
Insurance premium paid during first year of operation on this equipment
1,500
Special plumbing fixtures required for new equipment
8,000
Repair cost incurred in first year of operations related to this equipment
1,300
Construction
Material and purchased parts (gross cost $200,000; failed to take 1% cash discount)
$200,000
Imputed interest on funds used during construction (stock financing)
Compute the total cost for each of these two pieces of equipment. If an item is not capitalized as a cost of the equipment, indicate how it should be reported.
(Treatment of Various Costs) Allegro Supply Company, a newly formed corporation, incurred the following expenditures related to Land, to Buildings, and to Machinery and Equipment.
Abstract company’s fee for title search
$ 520
Architect’s fees
3,170
Cash paid for land and dilapidated building thereon
92,000
Removal of old building
$20,000
Less: Salvage
5,500
14,500
Interest on short term loans during construction
7,400
Excavation before construction for basement
19,000
Machinery purchased (subject to 2% cash discount, which was not taken)
65,000
Freight on machinery purchased
1,340
Storage charges on machinery, necessitated by non completion of
building when machinery was delivered
2,180
New building constructed (building construction took 6 months from
date of purchase of land and old building)
485,000
Assessment by city for drainage project
1,600
Hauling charges for delivery of machinery from storage to new building
620
Installation of machinery
2,000
Trees, shrubs, and other landscaping after completion of building
5,400
Instructions
Determine the amounts that should be debited to Land, to Buildings, and to Machinery and Equipment. Assume the benefits of capitalizing interest during construction exceed the cost of implementation. Indicate how any costs not debited to these accounts should be recorded.
(Capitalization of Interest) McPherson Furniture Company started construction of a combination office and warehouse building for its own use at an estimated cost of $5,000,000 on January 1, 2012. McPherson expected to complete the building by December 31, 2012. McPherson has the following debt obligations outstanding during the construction period.
Construction loan—12% interest, payable semiannually, issued December 31, 2011
$2,000,000
Short term loan—10% interest, payable monthly, and principal payable at maturity on May 30, 2013
1,600,000
Long term loan—11% interest, payable on January 1 of each year; principal payable on January 1, 2016
1,000,000
Instructions
(a) Assume that McPherson completed the office and warehouse building on December 31, 2012, asplanned at a total cost of $5,200,000, and the weighted average of accumulated expenditures was $3,800,000. Compute the avoidable interest on this project.
(b) Compute the depreciation expense for the year ended December 31, 2013. McPherson elected to depreciate the building on a straight line basis and determined that the asset has a useful life of 30 years and a salvage value of $300,000.
E10 8 (Capitalization of Interest) On December 31, 2011, Hurston Inc. borrowed $3,000,000 at 12% payable annually to finance the construction of a new building. In 2012, the company made the following expenditures related to this building: March 1, $360,000; June 1, $600,000; July 1, $1,500,000; December 1, $1,200,000. Additional information is provided as follows.
1. Other debt outstanding 10 year, 11% bond, December 31, 2005, interest payable annually $4,000,000 6 year, 10% note, dated December 31, 2009, interest payable annually $1,600,000
2. March 1, 2012, expenditure included land costs of $150,000
3. Interest revenue earned in 2012 $49,000
Instructions
(a) Determine the amount of interest to be capitalized in 2012 in relation to the construction of the building.
(b) Prepare the journal entry to record the capitalization of interest and the recognition of interest expense, if any, at December 31, 2012.
(Capitalization of Interest) On July 31, 2012, Bismarck Company engaged Duval Tooling Company to construct a special purpose piece of factory machinery. Construction began immediately and was completed on November 1, 2012. To help finance construction, on July 31 Bismarck issued a $400,000, 3 year, 12% note payable at Wellington National Bank, on which interest is payable each July 31. $300,000 of the proceeds of the note was paid to Duval on July 31. The remainder of the proceeds was temporarily invested in short term marketable securities (debt investments) at 10% until November 1. On November 1, Bismarck made a final $100,000 payment to Duval. Other than the note to Wellington, Bismarck’s only outstanding liability at December 31, 2012, is a $30,000, 8%, 6 year note payable, dated January 1, 2009, on which interest is payable each December 31.
Instructions
(a) Calculate the interest revenue, weighted average accumulated expenditures, avoidable interest, and total interest cost to be capitalized during 2012. Round all computations to the nearest dollar.
(b) Prepare the journal entries needed on the books of Bismarck Company at each of the following dates.
(Entries for Asset Acquisition, Including Self Construction) Below are transactions related to Impala Company.
(a) The City of Pebble Beach gives the company 5 acres of land as a plant site. The fair value of this land is determined to be $81,000.
(b) 14,000 shares of common stock with a par value of $50 per share are issued in exchange for land and buildings. The property has been appraised at a fair value of $810,000, of which $180,000 has been allocated to land and $630,000 to buildings. The stock of Impala Company is not listed on any exchange, but a block of 100 shares was sold by a stockholder 12 months ago at $65 per share, and a block of 200 shares was sold by another stockholder 18 months ago at $58 per share.
(c) No entry has been made to remove from the accounts for Materials, Direct Labor, and Overhead the amounts properly chargeable to plant asset accounts for machinery constructed during the year. The following information is given relative to costs of the machinery constructed.
Materials used
$12,500
Factory supplies used
900
Direct labor incurred
16,000
Additional overhead (over regular) caused by construction
2,700
of machinery, excluding factory supplies used
Fixed overhead rate applied to regular manufacturing operations
60% of direct labor cost
Cost of similar machinery if it had been purchased from
outside suppliers
44,000
Instructions
Prepare journal entries on the books of Impala Company to record these transactions.
(Entries for Acquisition of Assets) Presented below is information related to Rommel Company.
1. On July 6, Rommel Company acquired the plant assets of Studebaker Company, which had discontinued operations. The appraised value of the property is:
Land
$ 400,000
Buildings
1,200,000
Equipment
800,000
Total
$2,400,000
Rommel Company gave 12,500 shares of its $100 par value common stock in exchange. The stock had a fair value of $180 per share on the date of the purchase of the property.
2. Rommel Company expended the following amounts in cash between July 6 and December 15, the date when it first occupied the building.
Repairs to building
$105,000
Construction of bases for machinery to be installed later
135,000
Driveways and parking lots
122,000
Remodeling of office space in building, including new partitions and walls
161,000
Special assessment by city on land
18,000
3. On December 20, the company paid cash for machinery, $280,000, subject to a 2% cash discount, and freight on machinery of $10,500.
Instructions
Prepare entries on the books of Rommel Company for these transactions.
(Purchase of Equipment with Zero Interest Bearing Debt) Sterling Inc. has decided to purchase equipment from Central Michigan Industries on January 2, 2012, to expand its production capacity to meet customers’ demand for its product. Sterling issues a $900,000, 5 year, zero interest bearing note to Central Michigan for the new equipment when the prevailing market rate of interest for obligations of this nature is 12%. The company will pay off the note in five $180,000 installments due at the end of each year over the life of the note.
2 Instructions
(a) Prepare the journal entry (ies) at the date of purchase. (Round to nearest dollar in all computations.)
(b) Prepare the journal entry (ies) at the end of the first year to record the payment and interest, assuming that the company employs the effective interest method.
(c) Prepare the journal entry (ies) at the end of the second year to record the payment and interest.
(d) Assuming that the equipment had a 10 year life and no salvage value, prepare the journal entry necessary to record depreciation in the first year.
(Nonmonetary Exchange) Alatorre Corporation, which manufactures shoes, hired a recent college graduate to work in its accounting department. On the first day of work, the accountant was assigned to total a batch of invoices with the use of an adding machine. Before long, the accountant, who had never before seen such a machine, managed to break the machine. Alatorre Corporation gave the machine plus $320 to Mills Business Machine Company (dealer) in exchange for a new machine. Assume the following information about the machines.
Alatorre Corp. (Old Machine)
Mills Co. (New Machine)
Machine cost
$290
$270
Accumulated depreciation
140
–0–
Fair value
85
405
Instructions
For each company, prepare the necessary journal entry to record the exchange.
(Nonmonetary Exchange) Montgomery Company purchased an electric wax melter on April 30, 2013, by trading in its old gas model and paying the balance in cash. The following data relate to the purchase.
List price of new melter
$15,800
Cash paid
10,000
Cost of old melter (5 year life, $700 residual value)
Prepare the journal entry (ies) necessary to record this exchange, assuming that the exchange (a) has commercial substance, and (b) lacks commercial substance. Montgomery’s year ends on December 31, and depreciation has been recorded through December 31, 2012.
(Nonmonetary Exchange) Santana Company exchanged equipment used in its manufacturing operations plus $2,000 in cash for similar equipment used in the operations of Delaware Company. The following information pertains to the exchange.
Santana Co.
Delaware Co.
Equipment (cost)
$28,000
$28,000
Accumulated depreciation
19,000
10,000
Fair value of equipment
13,500
15,500
Cash given up
2,000
Instructions
(a) Prepare the journal entries to record the exchange on the books of both companies. Assume that the exchange lacks commercial substance.
(b) Prepare the journal entries to record the exchange on the books of both companies. Assume that the exchange has commercial substance.
(Nonmonetary Exchange) McArthur Inc. has negotiated the purchase of a new piece of automatic equipment at a price of $7,000 plus trade in, f.o.b. factory. McArthur Inc. paid $7,000 cash and traded in used equipment. The used equipment had originally cost $62,000; it had a book value of $42,000 and a secondhand fair value of $45,800, as indicated by recent transactions involving similar equipment. Freight and installation charges for the new equipment required a cash payment of $1,100.
Instructions
(a) Prepare the general journal entry to record this transaction, assuming that the exchange has commercial substance.
(b) Assuming the same facts as in (a) except that fair value information for the assets exchanged is not determinable. Prepare the general journal entry to record this transaction.
(Analysis of Subsequent Expenditures) Accardo Resources Group has been in its plant facility for 15 years. Although the plant is quite functional, numerous repair costs are incurred to maintain it in sound working order. The company’s plant asset book value is currently $800,000, as indicated below.
Original cost
$1,200,000
Accumulated depreciation
400,000
Book value
$ 800,000
During the current year, the following expenditures were made to the plant facility.
(a) Because of increased demands for its product, the company increased its plant capacity by building a new addition at a cost of $270,000.
(b) The entire plant was repainted at a cost of $23,000.
(c) The roof was an asbestos cement slate. For safety purposes it was removed and replaced with a wood shingle roof at a cost of $61,000. Book value of the old roof was $41,000.
(d) The electrical system was completely updated at a cost of $22,000. The cost of the old electrical system was not known. It is estimated that the useful life of the building will not change as a result of this updating.
(e) A series of major repairs were made at a cost of $47,000, because parts of the wood structure were rotting. The cost of the old wood structure was not known. These extensive repairs are estimated to increase the useful life of the building.
Instructions
Indicate how each of these transactions would be recorded in the accounting records.
(Analysis of Subsequent Expenditures) The following transactions occurred during 2013. Assume that depreciation of 10% per year is charged on all machinery and 5% per year on buildings, on a straight line basis, with no estimated salvage value. Depreciation is charged for a full year on all fixed assets acquired during the year, and no depreciation is charged on fixed assets disposed of during the year.
Jan. 30
A building that cost $112,000 in 1996 is torn down to make room for a new building. The wrecking contractor was paid $5,100 and was permitted to keep all materials salvaged.
Mar. 10
Machinery that was purchased in 2006 for $16,000 is sold for $2,900 cash, f.o.b. purchaser’s plant. Freight of $300 is paid on the sale of this machinery.
Mar. 20
A gear breaks on a machine that cost $9,000 in 2008. The gear is replaced at a cost of $3,000. The replacement does not extend the useful life of the machine.
May 18
A special base installed for a machine in 2007 when the machine was purchased has to be replaced at a cost of $5,500 because of defective workmanship on the original base. The cost of the machinery was $14,200 in 2007. The cost of the base was $4,000, and this amount was charged to the Machinery account in 2007.
June 23
One of the buildings is repainted at a cost of $6,900. It had not been painted since it was constructed in 2009.
Instructions
Prepare general journal entries for the transactions.
(Analysis of Subsequent Expenditures) Plant assets often require expenditures subsequent to acquisition. It is important that they be accounted for properly. Any errors will affect both the balance sheets and income statements for a number of years.
Instructions
For each of the following items, indicate whether the expenditure should be capitalized (C) or expensed (E) in the period incurred.
(a) __________ Improvement.
(b) __________ Replacement of a minor broken part on a machine.
(c) __________ Expenditure that increases the useful life of an existing asset.
(d) __________ Expenditure that increases the efficiency and effectiveness of a productive asset but does not increase its salvage value.
(e) __________ Expenditure that increases the efficiency and effectiveness of a productive asset and increases the asset’s salvage value.
(f) __________ Ordinary repairs.
(g) __________ Improvement to a machine that increased its fair value and its production capacity by 30% without extending the machine’s useful life.
(h) __________ Expenditure that increases the quality of the output of the productive asset.
(Entries for Disposition of Assets) On December 31, 2012, Chrysler Inc. has a machine with a book value of $940,000. The original cost and related accumulated depreciation at this date are as follows.
Machine
$1,300,000
Accumulated depreciation
360,000
Book value
$ 940,000
Depreciation is computed at $72,000 per year on a straight line basis.
Instructions
Presented below is a set of independent situations. For each independent situation, indicate the journal entry to be made to record the transaction. Make sure that depreciation entries are made to update the book value of the machine prior to its disposal.
(a) A fire completely destroys the machine on August 31, 2013. An insurance settlement of $630,000 was received for this casualty. Assume the settlement was received immediately.
(b) On April 1, 2013, Chrysler sold the machine for $1,040,000 to Avanti Company.
(c) On July 31, 2013, the company donated this machine to the Mountain King City Council. The fair value of the machine at the time of the donation was estimated to be $1,100,000.
(Classification of Acquisition and Other Asset Costs) At December 31, 2011, certain accounts included in the property, plant, and equipment section of Reagan Company’s balance sheet had the following balances.
Land
$230,000
Buildings
890,000
Leasehold improvements
660,000
Equipment
875,000
During 2012, the following transactions occurred.
1. Land site number 621 was acquired for $850,000. In addition, to acquire the land Reagan paid a $51,000 commission to a real estate agent. Costs of $35,000 were incurred to clear the land. During the course of clearing the land, timber and gravel were recovered and sold for $13,000.
2. A second tract of land (site number 622) with a building was acquired for $420,000. The closing statement indicated that the land value was $300,000 and the building value was $120,000. Shortly after acquisition, the building was demolished at a cost of $41,000. A new building was constructed for $330,000 plus the following costs.
Excavation fees
$38,000
Architectural design fees
11,000
Building permit fee
2,500
Imputed interest on funds used during construction (stock fi nancing)
8,500
The building was completed and occupied on September 30, 2012.
3. A third tract of land (site number 623) was acquired for $650,000 and was put on the market for resale.
4. During December 2012, costs of $89,000 were incurred to improve leased office space. The related lease will terminate on December 31, 2014, and is not expected to be renewed.
5. A group of new machines was purchased under a royalty agreement that provides for payment of royalties based on units of production for the machines. The invoice price of the machines was $87,000, freight costs were $3,300, installation costs were $2,400, and royalty payments for 2012 were $17,500.
Instructions
(a) Prepare a detailed analysis of the changes in each of the following balance sheet accounts for 2012.
Land
Leasehold improvements
Buildings
Equipment
Disregard the related accumulated depreciation accounts.
(b) List the items in the situation that were not used to determine the answer to (a) above, and indicate where, or if, these items should be included in Reagan’s financial statements.
At the beginning of 2003, Lowham s Guest Ranch constructed a new walk in freezer that had a useful life of 10 years. At the end of 10 years, the motor could be salvaged for $2,000. In addition to construction costs that totaled $10,000, the following costs were incurred:
Sales taxes on components.
$1,250
Delivery costs
800
Installation of motor
200
Painting of both interior and exterior of freezer
100
1. What is the cost of the walk in freezer to Lowham s Guest Ranch?
2. Compute the amount of depreciation to be taken in the first year assuming Lowham s Guest Ranch uses the
On January 1, 2002, Castle Investment Corporation purchased a coal mine for cash, having taken into consideration the favorable tax consequences and the inevitable energy crunch in the future.Castle paid $800,000 for the mine. Shortly before the purchase, an engineer estimated that there were 80,000 tons of coal in the mine.
1. Record the purchase of the mine on January 1, 2002.
2. Record the depletion expense for 2002, assuming that 20,000 tons of coal were mined during the year.
3. Assume that on January 1, 2003, the company received a new estimate that the mine now contained 120,000 tons of coal. Record the entry (if any) to show the change in estimate.
4. Record the depletion expense for 2003, assuming that another 20,000 tons of coal were mined.
Jordon Company is considering replacing its automated stamping machine. The machine is specialized and very expensive. Jordon is considering three acquisition alternatives. The first is to lease a machine for 10 years at $1 million per year, after which time Jordon can buy the machine for $1 million. The second alternative is to pay cash for the machine at a cost of $7 million. The third alternative is to make a down payment of $3 million, followed by 10 annual payments of $550,000. The company is trying to decide which alternative to select.
1. Assuming the present value of the lease payments is $7.2 million and the present value of the 10 loan payments of $550,000 is $4.1 million, determine which alternative Jordon should choose.
2. Interpretive Question: Your decision in part (1) was based only on financial factors. What other qualitative issues might influence your decision?
Pacific Printing Company purchased a new printing press. The invoice price was $158,500. The company paid for the press within 30 days, so it was allowed a 3% discount. The freight cost for delivering the press was $2,500. A premium of $900 was paid for a special insurance policy to cover the transportation of the press. The company spent $2,800 to install the press and an additional $400 in start up costs to get the press ready for regular production.
1. At what amount should the press be recorded as an asset?
2. What additional information must be known before the depreciation expense for the first year of operation of the new press can be computed?
3. Interpretive Question: What criterion is used to determine whether the start up costs of $400 are included in the cost of the asset? Explain.
On January 2, 2003, Cameron Company contracted to lease a computer on a non cancelable basis for five years at an annual rental of $63,000, payable at the end of each year. The computer has an estimated economic life of six years. There is no bargain purchase option, and the computer will be returned to the lessor at the end of the five year term of the lease. At the beginning of the lease, the computer has a fair market value of $240,000, and the present value of the lease payments equals $238,820.
1. Is this a capital lease or an operating lease? Explain.
2. Assuming that the lease is an operating lease, prepare the journal entries for Cameron Company for 2003.
3. Assuming that the lease is a capital lease, prepare the journal entries for Cameron Company for 2003. Assume the lease payment at the end of 2003 includes interest of $23,882.
The board of directors of Swogen Company authorized the president to lease a corporate jet to facilitate her travels to domestic and international subsidiaries of the company. After extensive investigation of the alternatives, the company agreed to lease a jet for $300,548 each year for five years, payable at the end of each year. Title to the jet will pass to Swogen Company at the end of five years with no further payments required. The lease agreement starts on January 2, 2003. The jet has an economic life of eight years. The lease contract is non cancelable and contains an interest rate of 8%, resulting in a present value of the lease payments of $1,200,000 as of January 2, 2003.
1. Does this lease contract meet the requirements to be accounted for as a capital lease? Why or why not?
2. Assuming that the lease contract is to be accounted for as a capital lease, prepare the journal entries for Swogen Company for 2003. Interest included in the first payment is $96,000.
Jennifer Cosmetics wants to construct a new building. It has three building options, as follows:
a. Hire a contractor to do all the work. Jennifer has a bid of $850,000 from a reputable contractor to complete the project.
b. Construct the building itself by taking out a construction loan of $800,000. Using this alternative, Jennifer believes materials and labor will cost $800,000, and interest on the construction loan will be calculated as follows:
$200,000 @ 12% for 9 months
$300,000 @ 12% for 6 months
$200,000 @ 12% for 3 months
$100,000 @ 12% for 1 month
1. What will be the recorded cost of the building under each alternative?
2. Assuming the building is depreciated over a 20 year period using straight line depreciation with no salvage value, how much is the annual depreciation expense under each alternative?
On January 1, VICOM Company purchased a $68,000 machine. The estimated life of the machine was five years, and the estimated salvage value was $5,000. The machine had an estimated useful life in productive output of 75,000 units. Actual output for the first two years was: year
1, 20,000 units; year 2, 15,000 units.
1. Compute the amount of depreciation expense for the first year, using each of the following methods:
a. Straight line.
b. Units of production.
2. What was the book value of the machine at the end of the first year, assuming that straight line depreciation was used?
3. If the machine is sold at the end of the fourth year for $15,000, how much should the company report as a gain or loss (assuming straight line depreciation)?
On April 1, 2003, Mission Company paid $360,000 in cash to purchase land, a building, and equipment. The appraised fair market values of the assets were as follows: land, $90,000; building, $260,000; and equipment, $50,000. The company incurred legal fees of $3,000 to determine that it would have a clear title to the land. Before the facilities could be used, Mission had to spend $2,500 to grade and landscape the land, $4,000 to put the equipment in working order, and $15,000 to renovate the building. The equipment was then estimated to have a useful life of six years with no salvage value, and the building would have a useful life of 20 years with a net salvage value of $15,000. Both the equipment and the building are to be depreciated on a straight line basis. The company is on a calendar year reporting basis.
1. Allocate the single purchase price to the individual assets acquired.
2. Prepare the journal entry to acquire the land, building, and equipment.
3. Prepare the journal entry to record the title search, landscape, put the equipment in working order, and renovate the building.
4. Prepare the journal entries on December 31, 2003, to record the depreciation on the building and the equipment.
On April 1, 2003, Rosenberg Company purchased for $200,000 a tract of land on which was located a fully equipped factory. The following information was compiled regarding this purchase:
Market
Seller s
Value
Book Value
Land
$75,000
$30,000
Building .
100,000
75,000
Equipment
50,000
60,000
Totals .
$225,000
$165,000
1. Prepare the journal entry to record the purchase of these assets.
2. Assume that the building is depreciated on a straight line basis over a remaining life of 20 years and the equipment is depreciated on a straight line basis over five years. Neither the building nor the equipment is expected to have any salvage value. Compute the depreciation expense for 2003 assuming the assets were placed in service immediately upon acquisition.
On January 2, 2001, Union Oil Company purchased a new airplane. The following costs are related to the purchase:
Airplane, base price
$112,000
Cash discount .
3,000
Sales tax
4,000
Delivery charges
1,000
1. Prepare the journal entry to record the payment of these items on January 2, 2001.
2. Ignore your answer to part 1 and assume that the airplane cost $90,000 and has an expected useful life of five years or 1,500 hours. The estimated salvage value is $3,000. Using units of production depreciation and assuming that 300 hours are flown in 2002, calculate the amount of depreciation expense to be recorded for the second year.
3. Ignore the information in parts 1 and 2 and assume that the airplane costs $90,000, that its expected useful life is five years, and that its estimated salvage value is $5,000. The company now uses the straight line depreciation method. On January 1, 2004, the following balances are in the related accounts:
Airplane
$90,000
Accumulated Depreciation, Airplane
51,000
Prepare the necessary journal entries to record the sale of this airplane on July 1, 2004, for $40,000.
On July 1, 2003, Philip Ward bought a used pickup truck at a cost of $5,300 for use in his business. On the same day, Ward had the truck painted blue and white (his company s colors) at a cost of $800. Mr. Ward estimates the life of the truck to be three years or 40,000 miles. He further estimates that the truck will have a $450 scrap value at the end of its life, but that it will also cost him $50 to transfer the truck to the junkyard.
1. Record the following journal entries:
a. July 1, 2003: Paid all bills pertaining to the truck. (No previous entries have been recorded concerning these bills.)
b. December 31, 2003: The depreciation expense for the year, using the straight line method.
c. December 31, 2004: The depreciation expense for 2004, again using the straight line method.
d. January 2, 2005: Sold the truck for $2,600 cash.
2. What would the depreciation expense for 2003 have been if the truck had been driven 8,000 miles and the units of production method of depreciation had been used?
3. Interpretive Question: In part 1(d), there is a loss of $650. Why did this loss occur?
Delta Company owns plant and equipment on the island of Lagos. The cost and book value of the building are $2,800,000 and $2,400,000, respectively. Until this year, the market value of the factory was $7 million. However, a new dictator just came to power and declared martial law. As a result of the changed political status, the future cash inflows from the use of the factory are expected to be greatly reduced. Delta now believes that the output from the factory will generate cash inflows of $100,000 per year for the next 20 years. In addition, the market value of the factory building is now just $1,300,000. Delta is not sure how to account for the sudden impairment in value.
1. Explain how to decide whether an impairment loss is to be recognized.
2. Prepare the necessary journal entry, if any, to account for an impairment in the value of the factory.
On January 1, 2003, Fishing Creek Company purchased Skull Valley Technologies for $8,800,000 cash. The book value and fair value of Skull Valley s assets as of the date of the acquisition are listed below:
Book
Market
Value
Value
Cash
$100,000
$100,000
Accounts receivable
500,000
500,000
Inventory
950,000
1,200,000
Property, plant, and
1,500,000
1,900,000
Trademark
0
2,000,000
Totals
$3,050,000
$5,700,000
In addition, Skull Valley had liabilities totaling $4,000,000 at the time of the acquisition.
1. At what amount will Skull Valley s trademark be recorded on the books of Fishing Creek, the acquiring company?
2. How much goodwill will be recorded as part of this acquisition?
3. How much goodwill amortization expense will Fishing Creek recognize in 2003? What assumptions are necessary to answer this question?
4. Interpretive Question: What was Skull Valley s recorded stockholders equity immediately before the acquisition? Under what circumstances does stockholders equity yield a poor measure of the fair value of a company?
Waystation Company reported the following asset values in 2002 and 2003:
2003
2002
Cash
$40,000
$30,000
Accounts receivable
500,000
400,000
Inventory
700,000
500,000
Land
300,000
200,000
Buildings
800,000
600,000
Equipment
400,000
300,000
In addition, Way station had sales of $4,000,000 in 2003. Cost of goods sold for the year was $2,500,000.
As of the end of 2002, the fair value of Way station s total assets was $2,500,000. Of the excess of fair value over book value, $50,000 resulted because the fair value of Way station s inventory was greater than its recorded book value. As of the end of 2003, the fair value of Way station s total assets was $3,500,000. As of December 31, 2003, the fair value of Way station s inventory was $100,000 greater than the inventory s recorded book value.
1. Compute Way station s fixed asset turnover ratio for 2003.
2. Using the fair value of fixed assets instead of the book value of fixed assets, recomputed Way station s fixed asset turnover ratio for 2003. State any assumptions that you make.
3. Interpretive Question: Way station s primary competitor is Handy Corner. Handy Corner s fixed asset turnover ratio for 2003, based on publicly available information, is 2.8 times. Is Way station more or less efficient at using its fixed assets than is Handy Corner? Explain your answer.
On January 1, Top Flight Company purchased a $68,000 machine. The estimated life of the machine was five years, and the estimated salvage value was $5,000. The machine had an estimated useful life in productive output of 75,000 units. Actual output for the first two years was: year 1, 20,000 units; year 2, 15,000 units.
1. Compute the amount of depreciation expense for the first year, using each of the following methods:
a. Straight line.
b. Units of production.
c. Sum of the years digits.
d. Double declining balance.
2. What was the book value of the machine at the end of the first year, assuming that straight line depreciation was used?
3. If the machine is sold at the end of the fourth year for $15,000, how much should the company report as a gain or loss (assuming straight line depreciation)?
On July 1, 2002, the consulting firm of Little, Smart, and Quick bought a new computer for$120,000 to help it service its clients more efficiently. The new computer was estimated to have a useful life of five years with an estimated salvage value of $20,000 at the end of five years. It was further estimated that the computer would be in operation about 1,500 hours in each of the five years with some variation of use from year to year. Janet Little, who manages the firm s internal operations, has asked you to help her decide which depreciation method should be selected for the new computer. The methods being considered are straight line, double declining balance, and sum of the years digits.
1. Prepare a schedule showing depreciation for 2002, 2003, and 2004 for each of the three methods being considered.
2. For each of the three methods, compute the asset book value that would be reported on the balance sheet at December 31, 2004.
3. Interpretive Question: Which method would maximize income for the three years (2002 2004), and which would minimize income for the same period?
Ironic Metal Products, Inc., acquired a machine on January 2, 2001, for $76,600. The useful life of the machine was estimated to be eight years with a salvage value of $4,600. Depreciation is recorded on December 31 of each year using the sum of the years digits method. At the beginning of 2003, the company estimated the remaining useful life of the machine to be four years and changed the estimated salvage value from $4,600 to $2,600. On January
2, 2004, major repairs on the machine cost the company $34,000. The repairs added two years to the machine s useful life and increased the salvage value to $3,000.
1. Prepare journal entries to record:
a. The purchase of the machine.
b. Annual depreciation expense for the years 2001 and 2002.
c. Depreciation in 2003 under the revised estimates of useful life and salvage value.
d. The expenditure for major repairs in 2004.
e. Depreciation expense for 2004.
2. Compute the book value of the machine at the end of 2004.
Orson Nutrition pays its salespeople a base salary of $1,000 per month plus a commission. Each salesperson starts with a commission of 1% of total gross sales for the month. The commission is increased thereafter according to seniority and productivity, up to a maximum of 5%. Orson has five salespeople with gross sales for the month of March and commission rates as follows:
Commission Rate
Gross Sales
JD
4.50%
100,000
Derrald .
5
120,000
Cierra . .
2.5
80,000
Hannah .
3
50,000
Skyler . .
1
200,000
The FICA tax rate is 7.65%. In addition, state and federal income taxes of 20% are withheld from each employee.
Required
1. Compute Orson’s total payroll expense (base salary plus commissions) for the month.
2. Compute the total amount of cash paid to employees for compensation for the month.
3. Interpretive Question: Briefly outline the advantages and disadvantages of having no income taxes withheld, but instead relying on individual taxpayers to pay the entire amount of their income tax at the end of the year when they file their tax return.
On January 1, 2003, Tiger Man Company established a stock option plan for its senior employees. A total of 400,000 options were granted that permit employees to purchase 400,000shares of stock at $20 per share. Each option had a fair value of $5 on the grant date. The market price for Tiger Man stock on January 1, 2003, was $20. The employees are required to remain with Tiger Man for three years (2003, 2004, and 2005) in order to be able to exercise these options. Tiger Man’s net income for 2003, before including any consideration of compensation expense, is $675,000.
Required
1. Compute the compensation expense associated with these options for 2003 under the fair value method. Note that the period of time that the employees must work to be able to exercise the options is three years.
2. Repeat (1) using the intrinsic value method.
3. Prepare any supplemental disclosures needed if Tiger Man uses the intrinsic value method.
4. Interpretive Question: You are a Tiger Man stockholder. What objections might you have to Tiger Man’s employee stock option plan?
The following information is available from Haan Company relating to its defined benefit pension plan:
Balances as of January 1, 2003:
Pension obligation liability
3,500
Pension fund assets.
3,000
Activity for 2003:
Service cost
400
Contributions to pension fund . .
$230
Benefit payments to retirees
170
Return on plan assets
330
Pension related interest cost
280
1. Compute the amount of pension expense to be reported on the income statement for 2003.
2. Determine the net pension amount to be reported on the balance sheet at the end of the year. Note: The benefit payments to retirees are made out of the pension fund assets. These payments reduce both the amount in the pension fund and the amount of the remaining pension obligation.
3. Interpretive Question: You are an employee of Haan Company and have just received the above information as part of the company’s annual report to the employees on the status of the pension plan. Does anything in this information cause you concern? Explain.
Kiev Company reported the following information relating to its pension plan for the years 2001 through 2004:
Year End
Year End
Interest
Return
Obligation
Plan Assets
Cost
on Assets
2001
522,500
$469,000
—
—
2002
$581,250
505,050
$52,250
$62,750
2003
643,000
549,700
$58,125
7165000%
2004
681,500
615,600
64,300
$68,500
1. Compute the amount of pension expense to be reported on the income statement for each of the years 2002 through 2004.
2. Determine the net pension amount to be reported on the balance sheet at the end of each year 2001 through 2004. Clearly indicate whether the amount is an asset or a liability.
3. Each year, the amount of the pension obligation is increased by the interest cost and the service cost. The pension obligation is reduced by the amount of pension benefits paid. Compute the amount of pension benefits paid in each of the years 2002 through 2004.
4. Each year, the amount in the pension fund is increased by contributions to the fund and by the return earned on the fund assets. The pension fund amount is reduced by the amount of pension benefits paid. Compute the amount of contributions to the pension fund in each of the years 2002 through 2004.
Black Kitty Company recorded certain revenues of $10,000 and $20,000 on its books in 2001 and 2002, respectively. However, these revenues were not subject to income taxation until 2003. Company records reveal pretax financial accounting income and taxable income for the threeyear period as follows:
Financial Income
Taxable Income
2001 . .
$44,000
$34,000
2002 . .
$38,000
18,000
2003 . .
21,000
18 Aug
Assume Black Kitty’s tax rate is 40% for all periods.
Required
1. Determine the amount of income tax that will be paid each year from 2001 through 2003.
2. Determine the amount of income tax expense that will be reported on the income statement each year from 2001 through 2003.
3. Compute the amount of deferred tax liability that would be reported on the balance sheet at the end of each year.
4. Interpretive Question: Why would the IRS allow Black Kitty to defer payment of taxes on some of the revenue earned in 2001 and 2002?
From the following information, prepare an income statement for Notem, Inc., for the year ended December 31, 2003. (HINT: Net income is $119,100.) Assume that there are 10,000 shares of capital stock outstanding.
Gross Sales Revenue
$3,625,000
Income Taxes
140,000
Cost of Goods Sold.
2,415,000
Sales Salaries Expense
410,000
Rent Expense (Selling)
16,000
Payroll Tax Expense (Selling)
3,100
Entertainment Expense (Selling).
2,000
Miscellaneous Selling Expenses
7,800
Miscellaneous General and Administrative Expenses.
$5,400
Automobile Expense (Selling)
$3,500
Insurance Expense (General and Administrative)
1,900
Interest Expense .
46,000
Interest Revenue. .
3,000
Sales Returns
$10,000
Advertising and Promotion Expense
199,000
Insurance Expense (Selling
17,000
Delivery Expense (Selling)
3,100
Office Supplies Expense (General and Administrative).
a. Briefly describe Microsoft’s employee stock purchase plan.
b. Microsoft also has an employee stock option plan whereby certain key employees are granted incentive stock options that allow them to buy Microsoft stock at a fixed price in the future. If Microsoft’s stock price continues to rise, these options could be very valuable. Microsoft is not required to report any expense associated with the granting of these options. However, Microsoft is required to estimate the value of these options and disclose what net income would have been if this value had been recognized as an expense. How much would Microsoft’s 1999 net income have decreased if the value of the incentive stock options had been recognized as an expense?
Renford Company owns two restaurants. One, located in Tacoma, was purchased from a previous owner and the other, located in Seattle, was built by Renford Company after purchasing the franchise. The restaurant in Seattle has a $20,000 unamortized franchise on the books. (The franchise originally cost $200,000 and is being amortized over 10 years.) The restaurant was built nine years ago. The Tacoma restaurant was purchased last year and has goodwill of $550,000 on the books. As it turns out, the Seattle restaurant does twice as much business as the Tacoma restaurant and is much more profitable. The Seattle restaurant is in a prime location, and business keeps increasing each year. The Tacoma restaurant does about the same amount of business each year, and it doesn t look as if it will ever do any better. Does it make sense to you to have goodwill on the books of the less profitable restaurant? Should Renford record goodwill on the books of the Seattle restaurant, or should it write off the goodwill on the Tacoma restaurant s books (which is being amortized over a 20 year period)?
Chong Lai Company acquired a new machine in order to expand its productive capacity. The costs associated with the machine purchase were as follows:
Purchase price
$10,000
Installation costs
500
Cost of initial testing
600
Sales tax
750
1. Make the journal entry to record the acquisition of the machine. Assume that all costs were paid in cash.
2. Make the journal entry to record the acquisition of the machine. Assume that Chong Lai Company signed a note payable for the $10,000 purchase price and paid the remaining costs in cash.
Antique Furniture Company decided to purchase a new furniture polishing machine for its store in New York City. After a long search, it found the appropriate polisher in Chicago. The machine costs $75,000 and has an estimated 10 year life and no salvage value. Antique Furniture Company made the following additional expenditures with respect to this purchase:
Sales tax
$4,000
Delivery costs (FOB shipping point)
1,500
Installation costs
2,200
Painting of machine to match the decor.
300
1. What is the cost of the machine to Antique Furniture Company?
2. What is the amount of the first full year s depreciation if Antique uses the straight line method?
Western Oil Company, which prepares financial statements on a calendar year basis, purchased new drilling equipment on July 1, 2003, using check numbers 1015 and 1016. The check totals are shown here, along with a breakdown of the charges.
1015 (Payee Oil Equipment, Inc.):
Cost of drilling equipment
$75,000
Cost of cement platform
25,000
Installation charges
13,000
Total
$113,000
1016 (Payee Red Ball Freight):
Freight costs for drilling equipment.
$2,000
Assume that the estimated life of the drilling equipment is 10 years and its salvage value is $5,000.
1. Record the disbursements on July 1, 2003, assuming that no entry had been recorded for the drilling equipment.
2. Disregarding the information given about the two checks, assume that the drilling equipment was recorded at a total cost of $95,000. Calculate the depreciation expense for 2003 using the straight line method.
On January 1, 2003, Hartmeyer Company leased a fax machine with a laser printer from Tele products, Inc. The five year lease is non cancelable and requires monthly payments of $150 at the end of each month, with the first payment due on January 31, 2003. At the end of five years, Hartmeyer will own the equipment. The present value of the lease payments at the beginning of the lease is determined to be $6,740.
1. Prepare journal entries to record:
a. The lease agreement on January 1, 2003.
b. The first lease payment on January 31, 2003, assuming that $68 of the $150 payment is interest.
2. Now assume that the lease expires after one year at which time a new lease can be negotiated or Hartmeyer can return the equipment to Teleproducts. Prepare any journal entries relating to the lease that would be required on January 1 and January 31, 2003.
In 1998, Rhode Company purchased land and a building at a cost of $800,000, of which $200,000 was allocated to the land and $600,000 was allocated to the building. As of December 31, 2002, the accounting records related to these assets were as follows:
Land
$200,000
Building
600,000
Accumulated Depreciation, Building
100,000
On January 1, 2003, it is determined that there is toxic waste under the building and the future cash flows associated with the land and building are less than the recorded total book value for those two assets. The fair value of the land and building together is now only $100,000, of which $40,000 is land and $60,000 is the building. How should this impairment in value be recognized? Make the entry on January 1, 2003, to record the impairment of the land and building.
Stringtown Company purchased Stansbury Island Manufacturing for $1,800,000 cash. The book value and fair value of the assets of Stansbury Island as of the date of the acquisition are listed below:
Book Value
Market Value
Cash
$30,000
$30,000
Accounts receivable
300,000
300,000
Inventory
350,000
600,000
Property, plant, and equipment
500,000
900,000
Totals
$1,180,000
$1,830,000
In addition, Stansbury Island had liabilities totaling $400,000 at the time of the acquisition.
1. At what amounts will the individual assets of Stansbury Island be recorded on the books of Stringtown, the acquiring company?
2. How will Stringtown account for the liabilities of Stansbury Island?
3. How much goodwill will be recorded as part of this acquisition?
Handy Corner Stores reported the following asset values in 2002 and 2003:
2003
2002
Cash
$30,000
$20,000
Accounts receivable
400,000
300,000
Inventory
600,000
350,000
Land
200,000
150,000
Buildings
600,000
500,000
Equipment.
300,000
200,000
In addition, Handy Corner had sales of $2,000,000 in 2003. Cost of goods sold for the year was $1,500,000. Compute Handy Corner s fixed asset turnover ratio for 2003.
Montana Oil Company, which prepares financial statements on a calendar year basis, purchased new drilling equipment on July 1, 2003. A breakdown of the cost follows:
Cost of drilling equipment .
$75,000
Cost of cement platform
25,000
Installation charges
13,000
Freight costs for drilling equipment
2,000
Total
$115,000
Assuming that the estimated life of the drilling equipment is 10 years and its salvage value is $5,000:
1. Record the purchase on July 1, 2003.
2. Assume that the drilling equipment was recorded at a total cost of $95,000. Calculate the depreciation expense for 2003 using the following methods:
a. Sum of the years digits.
b. Double declining balance.
c. 150% declining balance.
3. Prepare the journal entry to record the depreciation for 2003 in accordance with 2(a).
Stocks, Inc., sells weight lifting equipment. The sales and inventory records of the company for January through March 2003 were as follows:
Weight Sets
Unit Cost
Total Cost
Beginning inventory, Jan. 1
460
$30
13,800
Purchase, Jan. 16
110
32
3,520
Sale, Jan. 25 ($45 per set). .
216
Purchase, Feb. 16
105
36
3,780
Sale, Feb. 27 ($40 per set). .
307
Purchase, March 10
150
28
4,200
Sale, March 30 ($50 per set)
190
Required
1. Determine the amounts for ending inventory, cost of goods sold, and gross margin under the following costing alternatives. Use the periodic inventory method, which means that all sales are assumed to occur at the end of the period no matter when they actually occurred. Round amounts to the nearest dollar.
a. FIFO
b. LIFO
c. Average cost
2. Interpretive Question: Which alternative results in the highest gross margin? Why?
Dudley Wholesale buys peaches from farmers and sells them to canneries. During August 2003, Dudley s inventory records showed the following:
Cases
Price
August 1 Beginning inventory
4,100
11
4 Purchase
1,500
11
9 Sale
950
20
13 Purchase
1,000
11
19 Sale
12/20/1903
1/19/1900
26 Purchase
$1,700
12
30 Sale.
1,900
20
Dudley Wholesale uses the periodic inventory method to account for its inventory, which means that all sales are assumed to occur at the end of the period no matter when they actually occurred. Calculate the cost of goods sold and ending inventory using the following cost flow alternatives. (Calculate unit costs to the nearest cent.)
The accountant for Steele Company reported the following accounting treatments for several purchase transactions (FOB shipping point) that took place near December 31, 2003, the company s year end:
Date Inventory
Was Shipped
Was the Purchase
Recorded in the
Books on or before
Was the Inventory
Counted and Included
in Inventory Balance
December 31, 2003?
Amount
December 31, 2003?
2003:00:00
41,999
Yes
$1,100
Yes
42,002
Yes
800
No
31 Dec
No
1,800
Yes
2004
January 1
No
300
Yes
January 1
Yes
3,000
No
January 1
No
600
No
1. If Steele Company s records reported purchases and ending inventory balances of $80,800 and $29,800, respectively, for 2003, what would the proper amounts in these accounts have been?
2. What would be the correct amount of cost of goods sold for 2003, if the beginning inventory balance on January 1, 2003, was $20,200?
3. By how much would cost of goods sold be over or understated if the corrections in question (1) were not made?
The annual reported income for Salazar Company for the years 2000 2003 is shown here. However, a review of the inventory records reveals inventory misstatements.
2,000
2001
2002
2003
Reported net income
30,000
$40,000
$35,000
$45,000
Inventory overstatement, end of year
3,000
2,000
Inventory understatement, end of year
4,000
1000
Required
Using the data provided, calculate the correct net income for each year.
You have been hired as the accountant for Tracy Company, which uses the periodic inventory method. In reviewing the firm s records, you have noted what you think are several accounting errors made during the current year, 2003. These potential mistakes are listed as follows:
a. A $43,000 purchase of merchandise was properly recorded in the purchases account, but the related accounts payable account was credited for only $2,000.
b. A $3,500 shipment of merchandise received just before the end of the year was properly recorded in the purchases account but was not physically counted in the inventory and, hence, was excluded from the ending inventory balance.
c. A $6,700 purchase of merchandise was erroneously recorded as a $7,600 purchase.
d. A $500 purchase of merchandise was not recorded either as a purchase or as an account payable.
e. During the year, $1,200 of defective merchandise was sent back to a supplier. The original purchase had been recorded, but the merchandise return entry was not recorded.
f. During the physical inventory count, inventory that cost $400 was counted twice.
Required
1. If the previous accountant had tentatively computed the 2003 gross margin to be $10,000, what would be the correct gross margin for the year?
2. If these mistakes are not corrected, by how much will the 2004 net income be in error?
Stan s Wholesale buys canned tomatoes from canneries and sells them to retail markets. During August 2003, Stan s inventory records showed the following:
August 1 Beginning inventory.
Cases
Price
4 Purchase
4,100
$10.50
9 Sale
1,500
11.00
13 Purchase
950
$19.95
19 Sale
1,000
11.00
26 Purchase
1,450
$19.95
30 Sale
1,700
11.50
1,900
$19.95
Even though it requires more computational effort, Stan s uses the perpetual inventory method because management feels that the advantage of always having current knowledge of inventory levels justifies the extra cost.
Calculate the cost of goods sold and ending inventory using the following cost flow alternatives. (Calculate unit costs to the nearest cent.)
Pump It, Inc., sells weight lifting equipment. The sales and inventory records of the company for January through March 2003 were as follows:
Weight Sets
Unit Cost
Total Cost
Beginning inventory, Jan. 1
460
30
$13,800
Purchase, Jan. 16
110
32
3,520
Sale, Jan. 25 ($45 per set). .
216
Purchase, Feb. 16
105
36
3,780
Sale, Feb. 27 ($40 per set). .
307
Purchase, March 10
150
28
4,200
Sale, March 30 ($50 per set)
$190
Required
1. Determine the amounts for ending inventory, cost of goods sold, and gross margin under the following costing alternatives. Use the perpetual inventory method. Round amounts to the nearest dollar.
a. FIFO
b. LIFO
c. Average cost (calculate unit costs to the nearest cent)
2. Interpretive Question: Which alternative results in the highest gross margin? Why?
Average gross margin rate for the last three years
25%
1. On the basis of this information, estimate the cost of inventory on hand at January 31,2003, using the gross margin method. Round to the nearest whole percent.
Selected financial statement information relating to inventories for ARCHERDANIELS MIDLAND (ADM) is given below:
1999
1998
Cost of goods sold.
$13,051,306
$14,727,670
Inventory FIFO valuation
$2,734,054
30 Nov
Inventory LIFO valuation
2,732,694
2,562,650
ADM accounts for approximately 75% of its inventories using the FIFO method, but accounts for some of its inventories using the LIFO method. Thus, the differences reflected in the above table represent those inventories accounted for using the two methods.
1. Compute ADM s number of days sales in inventory for 1999 using (a) the FIFO valuation for inventory and (b) the LIFO valuation for inventory. Are the differences significant enough to concern you?
2. Suppose that ADM purchases its inventory with the terms net 30 days. That is, ADM s creditors expect payment in 30 days. Is ADM going to have a cash flow problem?
The following information is taken from the 1998 financial statements of LA ZBOY,INC., maker of recliners and other home furnishings, and the 1999 financial statements of MCDONALD S, maker of the Big Macfi and other fast
foods.
La Z Boy
McDonald s
Cost of goods sold
$825.3*
$3,205
Beginning inventory
$79
$77
Ending inventory
92
83
1. Before you do any computations, forecast which of the two companies will have a lower number of days sales in inventory.
2. Compute each company s number of days sales in inventory. Was your forecast in (1) correct?
3. How can these two very successful companies have number of days sales in inventory that are so different?
Tatia Wilks, the president of Lewbacca Company, is concerned about the low earnings that Lewbacca is scheduled to report this year. She called the company’s accounting staff into her office to question them about the accounting treatment of several items. She raised the following points:
a. Why do we have to report an expense this year associated with our pension plan? Our company is new, and none of our employees is within even 15 years of retirement. Accordingly, the pension plan won’t cost us anything for at least 15 years.
b. Research to find new products and improve our old products is one of our key competitive advantages. However, you tell me that all of the money we spend on research is reported as an expense this year. This is silly because the results of our research comprise our biggest economic asset.
c. We have an excellent staff of tax planners who work hard to legally minimize the amount of income taxes we pay each year. However, I see in the notes to the financial statements that you are requiring our company to report a “deferred income tax expense” for taxes that we don’t even owe yet! Why? How would you respond to each of these points?
Stockbridge Stores, Inc., has three employees, Frank Wall, Mary Jones, and Susan Wright. Summaries of their 2003 salaries and withholdings are as follows:
Employee
Gross
Salaries
Federal
Income Taxes
Withheld
State
Income Taxes
Withheld
FICA
Taxes
Withheld
Frank Wall
$54,000
$6,500
2,500
4,131
Mary Jones
39,000
$4,800
$1,900
2,984
Susan Wright
34,000
4,250
1,500
$2,601
1. Prepare the summary entry for salaries paid to the employees for the year 2003.
2. Assume that, in addition to FICA taxes, the employer has incurred $192 for federal unemployment taxes and $720 for state unemployment taxes. Prepare the summary journal entry to record the payroll tax liability for 2003, assuming no taxes have yet been paid.
3. Interpretive Question: What other types of items are frequently withheld from employees’ paychecks in addition to income taxes and FICA taxes?
Boatogooso Company began operating on January 1, 2003. At the end of the first year of operations, Boatogooso reported $500,000 income before income taxes on its income statement but taxable income of $600,000 on its tax return. This difference arose because $100,000 in expenses incurred during 2003 were not yet deductible for income tax purposes according to the income tax regulations. The tax rate is 40%.
1. Compute the amount of income tax that Boatogooso legally owes for taxable income generated during 2003.
2. Compute the amount of income tax expense to be reported on Boatogooso’s income statement for 2003.
3. State whether Boatogooso has a deferred income tax asset or a deferred income tax liability as of the end of 2003. What is the amount of the asset or liability?
Rayn Company is involved in the following legal matters:
a. A customer is suing Rayn for allegedly selling a faulty and dangerous product. Rayn’s attorneys believe that there is a 40% chance of Rayn’s losing the suit.
b. A federal agency has accused Rayn of violating numerous employee safety laws. The company faces significant fines if found guilty. Rayn’s attorneys feel that the company has complied with all applicable laws, and they therefore place the probability of incurring the fines at less than 10%.
c. Rayn has been named in a gender discrimination lawsuit. In the past, Rayn has systematically promoted its male employees at a faster rate than it has promoted its female employees. Rayn’s attorneys judge the probability that Rayn will lose this lawsuit at more than 90%. For each item, determine the appropriate accounting treatment.
Determining whether an expenditure should be expensed or capitalized is often difficult. Consider each of the following independent situations and indicate whether you would recommend that the cost be expensed or capitalized as an asset. Explain your answer.
1. Splash.com has spent $1.5 million for a 30 second advertisement to be aired during the Super Bowl. The ad introduces the company’s new Web based product, and the company expects the ad to increase sales for at least 18 months.
2. Chromosome.com has spent $8 million on research related to genetic diseases. The company expects this research to lead to substantial revenues, beginning in the next year.
3. Catalog.com is an online catalog sales company. Catalog.com has just spent $5 million designing a targeted advertising campaign that will encourage regular customers of the company’s online catalog service to buy new products.
4. Food.com is an online seller of groceries. The company just spent $4 million building a new warehouse. The warehouse is expected to be useful for the next 15 years.
Use the following information to prepare an income statement for Fairchild Corporation for the year ended December 31, 2003. You should show separate classifications for revenues, cost of goods sold, gross margin, selling expenses, general and administrative expenses, operating income, other revenues and expenses, income before income taxes, income taxes, and net income. (HINT: Net income is $27,276.)
Sales Returns
4,280
Income Taxes
26,000
Interest Revenue
2,400
Office Supplies Expense (General and Administrative)
400
Utilities Expense (General and Administrative).
$3,980
Office Salaries Expense (General and Administrative)
Orange County Bank has three employees, Albert Myers, Juan Moreno, and Michi Endo. During January 2003, these three employees earned $6,000, $4,200, and $4,000, respectively. The following table summarizes the required withholding rates on each individual’s income for the month of January:
Federal Income
Tax Withholdings
State Income Tax
Employee
Withholdings
FICA Tax
Albert Myers
33%
3%
7.65%
Juan Moreno
28
$4
$8
Michi Endo .
28
5
8
You are also informed that the bank is subject to the following unemployment tax rates on the salaries earned by the employees during January 2003:
Federal unemployment tax . . . . . 0.8%
State unemployment tax . . . . . . . 3.0%
Required
1. Prepare the journal entry to record salaries payable for the month of January.
2. Prepare the journal entry to record payment of the January salaries to employees.
3. Prepare the journal entry to record the bank’s payroll taxes for the month of January.
Spartacas, Inc., which uses the perpetual inventory method, recently had an agency count its inventory of frozen chickens. The agency left the following inventory sheet:
Type of
Date
Quantity
Unit
Inventory
Merchandise
Purchased
on Hand
Cost
Amount
Chicken grade A
37,664
30
$5.00
(a)
Chicken grade B
37,670
16
(b)
$54.40
Chicken grade C
2/8/2003
(c)
$2.50
$60.00
Chicken grade D
2/15/2003
46
(d)
$52.90
Complete the inventory calculations for Spartacas (items a d) and provide the journal entry necessary to adjust ending inventory, if necessary. The balance in Inventory before the physical count was $305.05.
Jefferson s Jewelry Store is computing its inventory and cost of goods sold for November 2003. At the beginning of the month, the following jewelry items were in stock (rings were purchased in the order listed):
Quantity
Cost
Total
Ring A
8
600
4,800
Ring A
10
650
6,500
Ring B
5
300
1,500
Ring B
$6
350
2,100
Ring B
3
450
1,350
Ring C
7
200
1,400
Ring C
8
250
2,000
$19,650
During the month, the following rings were purchased: four type A rings at $600, two type B rings at $450, and five type C rings at $300. Also during the month, these sales were made:
Ring Type
Quantity Sold
Price
A
2
1,000
A
3
1,050
A
1
1,200
B
2
850
B
2
800
C
4
450
C
3
500
C
1
550
Jefferson s uses the periodic inventory method. Calculate the cost of goods sold and ending inventory balances for November using FIFO and LIFO.
The following transactions took place with respect to Model M computers in Alpha s Computer
Store during April 2003:
April 1 Beginning inventory
40 computers at $1,200
5 Purchase of Model M computers.
15 computers at $1,300
11 Purchase of Model M computers.
16 computers at $1,350
24 Purchase of Model M computers.
10 computers at $1,400
30 Sale of Model M computers
32 computers at $3,000
Assuming the periodic inventory method, compute cost of goods sold and ending inventory using the following inventory costing alternatives: (a) FIFO, (b) LIFO, and (c) average cost.
As the accountant for Mt. Pleasant Enterprises, you are in the process of preparing the income statement for the year ended December 31, 2003. In doing so, you have noticed that merchandise costing $2,000 was sold for $4,000 on December 31. Before the effects of the $4,000 sale were taken into account, the relevant income statement figures were:
Sales revenue
80,000
Beginning inventory.
18,000
Purchases
44,000
Ending inventory .
13,000
1. Prepare a partial income statement through gross margin under each of the following three assumptions:
a. The sale is recorded in the 2003 accounting record; the inventory is included in the ending physical inventory count.
b. The sale is recorded in 2003; the inventory is not included in ending inventory.
c. The sale is not recorded in the 2003 accounting records; the merchandise is not included in the ending inventory count.
2. Under the given circumstances, which of the three assumptions is correct?
3. Which assumption overstates gross margin (and therefore net income)?
The July 2003 inventory records of Mario s Bookstore showed the following:
July 1 Beginning inventory
28,000
at $2.00 = $56,000
5 Sold
4,000
13 Purchased
6,000
at $2.25 = 13,500
17 Sold
3,000
25 Purchased
8,000
at $2.50 = 20,000
27 Sold.
5,000
$89,500
1. Using the perpetual inventory method, compute the ending inventory and cost of goods sold balances with (a) FIFO, (b) LIFO, and (c) average cost. Compute unit costs to the nearest cent.
Prepare the necessary journal entries to account for the purchases and year end adjustments of the inventory of Payson Manufacturing Company. All purchases are made on account. Payson uses the periodic inventory method.
1. Purchased 50 standard widgets for $8 each to sell at $14 per unit.
2. Purchased 15 deluxe widgets at $20 each to sell for $30 per unit.
3. At the end of the year, the standard widgets could be purchased for $9 and are selling for $15.
4. At the end of the year, the deluxe widgets could be purchased for $10 and are selling for $16 per unit. Selling costs are $4 per unit, and normal profit is $6 per unit. Inventory is 15 units.
5. At the end of the second year, standard widgets could be purchased for $6 and are selling for $8. Selling costs are $1 per widget, and normal profit is $2 per widget. Inventory is 50 units.
6. At the end of the second year, the deluxe widgets could be purchased for $9 and are selling for $20. Selling costs and normal profit remain as in (4). Inventory is 15 units.
Demetrius is trying to compute the inventory balance for the December 31, 2002, financial statements of his automotive parts shop. He has computed a tentative balance of $52,600 but suspects that several adjustments still need to be made. In particular, he believes that the following could affect his inventory balance:
a. A shipment of goods that cost $3,000 was received on December 28, 2002. It was properly recorded as a purchase in 2002 but not counted with the ending inventory.
b. Another shipment of goods (FOB destination) was received on January 2, 2003, and cost $800. It was properly recorded as a purchase in 2003 but was counted with 2002 s ending inventory.
c. A $2,800 shipment of goods to a customer on January 3 was recorded as a sale in 2003 but was not included in the December 31, 2002, ending inventory balance. The goods cost $2,000. d. The company had goods costing $6,000 on consignment with a customer, and $5,000 of merchandise was on consignment from a vendor. Neither amount was included in the $52,600 figure. e. The following amounts represent merchandise that was in transit on December 31, 2002, and recorded as purchases and sales in 2002 but not included in the December 31 inventory.
1. Ordered by Demetrius, $1,800, FOB destination.
2. Ordered by Demetrius, $600, FOB shipping point.
3. Sold by Demetrius, cost $4,000, FOB shipping point.
4. Sold by Demetrius, cost $4,600, FOB destination.
Required
1. Determine the correct amount of ending inventory at December 31, 2002.
2. Assuming net purchases (before any adjustment, if any) totaled $86,400 and beginning inventory (January 1, 2002) totaled $31,600, determine the cost of goods sold in 2002.
The following transactions for Goodmonth Tire Company occurred during the month of March 2003:
a. Purchased 500 automobile tires on account at a cost of $40 each for a total of $20,000.
b. Purchased 300 truck tires on account at a cost of $80 each for a total of $24,000.
c. Paid cash of $1,300 for separate shipping costs on the automobile tires purchased in (a). The supplier of the truck tires included the shipping costs in the $80 price.
d. Returned 12 automobile tires to the supplier because they were defective.
e. Paid for the automobile tires. A 1% discount was given on the amount owed. (HINT: Remember that some of the automobile tires were returned.) Payment terms were 1/20, n/30.
f. Paid for half the truck tires, receiving a discount of 2%. Terms were 2/10, n/30.
g. Paid the remaining balance owed on the truck tires. No discount was received because payment was made after the discount period.
h. Sold on account 400 automobile tires at a price of $90 each for a total of $36,000.
i. Sold on account 200 truck tires at a price of $150 each for a total of $30,000.
j. Accepted return of 7 automobile tires from dissatisfied customers.
Required
1. Prepare journal entries to account for the above transactions assuming a periodic inventory system.
2. Prepare journal entries to account for the above transactions assuming a perpetual inventory system.
3. Assume that inventory levels at the beginning of March (before these transactions) were 100 automobile tires that cost $40 each and 70 truck tires that cost $80 each. Also, assume that a physical count of inventory at the end of March revealed that 184 automobile tires and 164 truck tires were on hand. Given these inventory amounts, prepare the closing entries to account for inventory and related accounts as of the end of March.
The following aging of accounts receivable is for Coby Company at the end of 2003:
Aging of Accounts Receivable
31 Dec 03
Overall
Less Than 30
Days
31 to 60
Days
61 to 90
Days
Over 90
Days
Travis Campbell
50,000
40,000
5,000
2,000
$3,000
Linda Reed
35,000
31,000
4,000
Jack Riding
110,000
100,000
10,000
Joy Riddle
10/3/1954
3/18/1908
10,000
4,000
3,000
Afzal Shah
$90,000
60,000
21,000
4,000
5,000
Edna Ramos
80,000
60,000
16,000
4,000
Totals
385,000
$294,000
$66,000
$10,000
$15,000
Coby Company had a credit balance of $20,000 in its allowance for bad debts account at the beginning of 2003. Write offs for the year totaled $16,500. Coby Company makes only one adjusting entry to record bad debt expense at the end of the year. Historically, Coby Company has experienced the following with respect to the collection of its accounts receivable:
Age of Account
Percentage Ultimately Uncollectible
Less than 30 days
0
31 60 days
5
61 90 days
30
Over 90 days
90
Required
1. Compute the appropriate balance of allowance for bad debts as of December 31, 2003.
2. Make the journal entry required to record this allowance for bad debts balance. Remember that the allowance account already has an existing balance.
3. What is Coby s net accounts receivable balance as of December 31, 2003?
The following accounts receivable information is for MaScare Company:
2003
2002
2,001
Accounts receivable
$100,000
$30,000
$50,000
Allowance for bad debts
4,000
2,000
3,000
Sales revenue
210,000
180,000
170,000
Required
1. With the big increase in the Allowance for Bad Debts in 2003, MaScare Company is concerned that the creditworthiness of its customers declined from 2002 to 2003. Is there any support for this view in the accounts receivable data? Explain.
2. Interpretive Question: Is there any cause for alarm in the accounts receivable data for 2003? Explain.
Milton Company has just received the following monthly bank statement for June 2003.
Date
Checks
Deposits
Balance
1 Jun
$25,000
2 Jun
$150
24,850
3 Jun
6,000
30,850
4 Jun
750
30,100
5 Jun
1,500
$28,600
7 Jun
8,050
20,550
9 Jun
$8,000
$28,550
10 Jun
$3,660
24,890
11 Jun
2,690
22,200
12 Jun
9,000
31,200
13 Jun
550
30,650
17 Jun
7,500
$23,150
20 Jun
5,500
28,650
21 Jun
650
28,000
22 Jun
700
27,300
23 Jun
$4,140
$31,440
25 Jun
1,000
30,440
30 Jun
50*
$30,390
Totals
$27,250
32,640
Data from the cash account of Milton Company for June are as follows:
June 1 balance
$20,440
Checks written:
Deposits:
June 1 .
$1,500
2 Jun
6,000
4 .
8,500
5
8,000
6 .
2,690
10
9,000
8 .
$550
18
5,500
9 .
7,500
30
6,000
12 .
650
$34,500
19 .
700
22 .
1,000
26 .
$1,300
27 .
1,360
$25,750
At the end of May, Milton had three checks outstanding for a total of $4,560. All three checks were processed by the bank during June. There were no deposits outstanding at the end of May. It was discovered during the reconciliation process that a check for $8,050, written on June 4 for supplies, was improperly recorded on the books as $8,500.
Required
1. Determine the amount of deposits in transit at the end of June.
2. Determine the amount of outstanding checks at the end of June.
3. Prepare a June bank reconciliation.
4. Prepare the journal entries to correct the cash account.
5. Interpretive Question: Why is it important that the cash account be reconciled on a timely basis?
Kim Lee, the bookkeeper for Briton Company, had never missed a day s work for the past ten years until last week. Since that time, he has not been located. You now suspect that Kim may have embezzled money from the company. The following bank reconciliation, prepared by Kim last month, is available to help you determine if a theft occurred:
Briton Company
Bank Reconciliation for August2003
Prepared by Kim Lee
Balance per bank statement
$192,056
Balance per books
$169,598
Additions to bank balance:
Additions to book balance:
Deposits in transit
8,000
Note collected by bank
250
Deductions from bank balance:
Interest earned
600
Outstanding checks:
Deductions from book balance:
(1,800)
)#201
(19,200)
NSF check
#204.
(5,000)
Bank service charges. .
($48)
#205
(4,058)
#295
(195)
#565
(1,920)
#567
(615)
#568
(468)
Adjusted bank balance
$168,600
Adjusted book balance
$168,600
In examining the bank reconciliation, you decide to review canceled checks returned by the bank. You find that check stubs for check nos. 201, 204, 205, and 295 indicate that these checks were supposedly voided when written. All other bank reconciliation data have been verified as correct.
Required
1. Compute the amount suspected stolen by Kim.
2. Interpretive Question: Describe how Kim accounted for the stolen money. What would have prevented the theft?
Company A has consignment arrangements with Supplier B and with Customer C. In particular, Supplier B ships some of its goods to Company A on consignment, and Company A ships some of its goods to Customer C on consignment. At the end of 2003, Company A s accounting records showed:
Goods on consignment from Supplier B.
$8,000
Goods on consignment with Customer C
10,000
1. If a physical count of inventory reveals that $30,000 of goods are on hand, what amount of ending inventory should be reported?
2. If the amount of the beginning inventory for the year was $27,000 and purchases during the year were $59,000, then what is the cost of goods sold for the year? (Assume the ending inventory from question 1.)
3. If, instead of these facts, Company A had only $4,000 of goods on consignment with Customer C, but had $10,000 of consigned goods from Supplier B, and physical goodson hand totaled $36,000, what would the correct amount of the ending inventory be?
4. With respect to question 3, if beginning inventory totaled $24,000 and the cost of goods sold was $47,500, what were the purchases?
Oakwood Furniture purchases and sells dining room furniture. Its management uses the perpetual method of inventory accounting. Journalize the following transactions that occurred during April 2003:
Apr. 2 Purchased on account $15,000 of inventory with payment terms 2/10, n/30, and paid $250 in cash to have it shipped from the vendor s warehouse to the Oakwood showroom.
5 Sold inventory costing $3,000 for $5,400 on account.
10 Paid $6,860 on account (from April 2 purchase).
14 Returned two damaged tables purchased on April 2 (costing $800 each) to the vendor.
19 Received payment of $1,000 from customers.
20 Paid the balance of the account from April 2 purchase.
22 Sold inventory costing $6,000 for $7,000 on account.
26 A customer returned a dining room set that she decided didn t match her home. She paid $2,500 for it, and its cost to Oakwood was $1,500. Assuming the balance in the inventory account is $8,000 on April 1, and no other transactions relating to inventory occurred during the month, what is the inventory balance at the end of April?
Products uses both special journals and a general journal as described in this chapter. Simon also posts customers’ accounts in the accounts receivable subsidiary ledger. The postings for the most recent month are included in the subsidiary T accounts below.
Tam
Bal.
340
250
200
Sean
Bal.
–0–
145
145
Doctor
Bal.
150
150
240
Maher
Bal.
120
120
190
150
Instructions
Determine the correct amount of the end of month posting from the sales journal to the Accounts Receivable control account.
Selected account balances for R. Tam Company at January 1, 2012, are presented below.
Accounts Payable
$14,000
Accounts Receivable
22,000
Cash
17,000
Inventory
13,500
R. Tam’s sales journal for January shows a total of $100,000 in the selling price column, and its one column purchases journal for January shows a total of $72,000.
The column totals in R. Tam’s cash receipts journal are: Cash Dr. $61,000; Sales Discounts Dr. $1,100; Accounts Receivable Cr. $45,000; Sales Revenue Cr. $6,000; and Other Accounts Cr. $11,100.
The column totals in R. Tam’s cash payments journal for January are: Cash Cr. $55,000; Inventory Cr. $1,000; Accounts Payable Dr. $46,000; and Other Accounts Dr. $10,000. R. Tam’s total cost of goods sold for January is $63,600.
Accounts Payable, Accounts Receivable, Cash, Inventory, and Sales Revenue are not involved in the “Other Accounts” column in either the cash receipts or cash payments journal, and are not involved in any general journal entries.
Instructions
Compute the January 31 balance for R. Tam in the following accounts.
River Company’s chart of accounts includes the following selected accounts
101
Cash
112
Accounts Receivable
120
Inventory
301
Owner’s Capital
401
Sales Revenue
414
Sales Discounts
505
Cost of Goods Sold
On April 1 the accounts receivable ledger of River Company showed the following balances: Summer $1,550, Glav $1,200, Sheppard Co. $2,900, and Book $1,800. The April transactions involving the receipt of cash were as follows.
Apr.
1
The owner, T. River, invested additional cash in the business $7,200.
4
Received check for payment of account from Book less 2% cash discount.
5
Received check for $920 in payment of invoice no. 307 from Sheppard Co.
8
Made cash sales of merchandise totaling $7,245. The cost of the merchandise sold was
$4,347.
10
Received check for $600 in payment of invoice no. 309 from Summer.
11
Received cash refund from a supplier for damaged merchandise $740.
23
Received check for $1,500 in payment of invoice no. 310 from Sheppard Co.
29
Received check for payment of account from Glav.
Instructions
(a) Journalize the transactions above in a six column cash receipts journal with columns for Cash Dr., Sales Discounts Dr., Accounts Receivable Cr., Sales Revenue Cr., Other Accounts Cr., and Cost of Goods Sold Dr./Inventory Cr. Foot and cross foot the journal.
(b) Insert the beginning balances in the Accounts Receivable control and subsidiary accounts, and post the April transactions to these accounts.
(c) Prove the agreement of the control account and subsidiary account balances.
Saffron Company’s chart of accounts includes the following selected accounts.
101
Cash
120
Inventory
130
Prepaid Insurance
157
Equipment
201
Accounts Payable
306
Owner’s Drawings
505
Cost of Goods Sold
On October 1, the accounts payable ledger of Saffron Company showed the following balances: Glass Company $2,700, Ron Co. $2,500, Hendricks Co. $1,800, and Christina Company $3,700. The October transactions involving the payment of cash were as follows.
Oct.
1
Purchased merchandise, check no. 63, $300.
3
Purchased equipment, check no. 64, $800.
5
Paid Glass Company balance due of $2,700, less 2% discount, check no. 65, $2,646.
10
Purchased merchandise, check no. 66, $2,250.
15
Paid Hendricks Co. balance due of $1,800, check no. 67.
16
C. Saffron, the owner, pays his personal insurance premium of $400, check no. 68.
19
Paid Ron Co. in full for invoice no. 610, $1,600 less 2% cash discount, check no. 69,
$1,568.
29
Paid Christina Company in full for invoice no. 264, $2,500, check no. 70.
Instructions
(a) Journalize the transactions above in a four column cash payments journal with columns for Other Accounts Dr., Accounts Payable Dr., Inventory Cr., and Cash Cr. Foot and cross foot the journal.
(b) Insert the beginning balances in the Accounts Payable control and subsidiary accounts, and post the October transactions to these accounts.
(c) Prove the agreement of the control account and the subsidiary account balances.
The chart of accounts of IT Company includes the following selected accounts.
112
Accounts Receivable
120
Inventory
126
Supplies
157
Equipment
201
Accounts Payable
401
Sales Revenue
412
Sales Returns and Allowances
505
Cost of Goods Sold
610
Advertising Expense
In July, the following selected transactions were completed. All purchases and sales were on account. The cost of all merchandise sold was 70% of the sales price.
July
1
Purchased merchandise from Roy Company $8,000.
2
Received freight bill from Moss Shipping on Roy purchase $400.
3
Made sales to Jen Company $1,300, and to O’Dowd Bros. $1,500.
5
Purchased merchandise from Moon Company $3,200.
8
Received credit on merchandise returned to Moon Company $300.
13
Purchased store supplies from Cress Supply $720.
15
Purchased merchandise from Roy Company $3,600 and from Anton Company $3,300.
16
Made sales to Sager Company $3,450 and to O’Dowd Bros. $1,570.
18
Received bill for advertising from Lynda Advertisements $600.
21
Sales were made to Jen Company $310 and to Haddad Company $2,800.
22
Granted allowance to Jen Company for merchandise damaged in shipment $40.
24
Purchased merchandise from Moon Company $3,000.
26
Purchased equipment from Cress Supply $900.
28
Received freight bill from Moss Shipping on Moon purchase of July 24, $380.
30
Sales were made to Sager Company $5,600.
Instructions
(a) Journalize the transactions above in a purchases journal, a sales journal, and a general journal. The purchases journal should have the following column headings: Date, Account Credited (Debited), Ref., Accounts Payable Cr., Inventory Dr., and Other Accounts Dr.
(b) Post to both the general and subsidiary ledger accounts. (Assume that all accounts have zero beginning balances.)
(c) Prove the agreement of the control and subsidiary accounts.
Selected accounts from the chart of accounts of Ayoade Company are shown below.
101
Cash
112
Accounts Receivable
120
Inventory
126
Supplies
157
Equipment
201
Accounts Payable
401
Sales Revenue
412
Sales Returns and Allowances
414
Sales Discounts
505
Cost of Goods Sold
726
Salaries and Wages Expense
The cost of all merchandise sold was 60% of the sales price. During January, Ayoade completed the following transactions.
Jan.
3
Purchased merchandise on account from Parkinson Co. $10,000.
4
Purchased supplies for cash $80.
4
Sold merchandise on account to Douglas $5,250, invoice no. 371, terms 1/10, n/30.
5
Returned $300 worth of damaged goods purchased on account from Parkinson Co. on
January 3.
6
Made cash sales for the week totaling $3,150.
8
Purchased merchandise on account from Denholm Co. $4,500.
9
Sold merchandise on account to Connor Corp. $6,400, invoice no. 372, terms 1/10, n/30.
11
Purchased merchandise on account from Betz Co. $3,700.
13
Paid in full Parkinson Co. on account less a 2% discount.
13
Made cash sales for the week totaling $6,260.
15
Received payment from Connor Corp. for invoice no. 372.
15
Paid semi monthly salaries of $14,300 to employees.
17
Received payment from Douglas for invoice no. 371.
17
Sold merchandise on account to Bullock Co. $1,200, invoice no. 373, terms 1/10, n/30.
19
Purchased equipment on account from Murphy Corp. $5,500.
20
Cash sales for the week totaled $3,200.
20
Paid in full Denholm Co. on account less a 2% discount.
23
Purchased merchandise on account from Parkinson Co. $7,800.
24
Purchased merchandise on account from Forgetta Corp. $5,100.
27
Made cash sales for the week totaling $4,230.
30
Received payment from Bullock Co. for invoice no. 373.
31
Paid semi monthly salaries of $13,200 to employees.
31
Sold merchandise on account to Douglas $9,330, invoice no. 374, terms 1/10, n/30.
Ayoade Company uses the following journals.
1. Sales journal.
2. Single column purchases journal.
3. Cash receipts journal with columns for Cash Dr., Sales Discounts Dr., Accounts Receivable Cr., Sales Revenue Cr., Other Accounts Cr., and Cost of Goods Sold Dr./Inventory Cr.
4. Cash payments journal with columns for Other Accounts Dr., Accounts Payable Dr., Inventory Cr., and Cash Cr.
5. General journal.
Instructions
Using the selected accounts provided:
(a) Record the January transactions in the appropriate journal noted.
(b) Foot and cross foot all special journals.
(c) Show how postings would be made by placing ledger account numbers and checkmarks as needed in the journals. (Actual posting to ledger accounts is not required.)
Presented below and on page 348 are the purchases and cash payments journals for Richmond Co. for its first month of operations.
PURCHASES JOURNAL
P1
Inventory Dr.
Date
Account Credited
Ref.
Accounts Payable Cr.
July 4
N. Fielding
6,800
5
F. Noel
8,100
11
J. Shaggy
5,920
13
C. Tabor
15,300
20
M. Sneezy
7,900
44,020
CASH PAYMENTS JOURNAL
CP1
Other
Accounts
Account
Accounts
Payable
Inventory
Cash
Date
Debited
Ref
Dr.
Dr.
Cr.
Cr.
July 4
Supplies
600
600
10
F. Noel
8,100
81
8,019
11
Prepaid Rent
6,000
6,000
15
N. Fielding
6,800
6,800
19
Owner’s Drawings
2,500
2,500
21
C. Tabor
15,300
153
15,147
9,100
30,200
234
39,066
In addition, the following transactions have not been journalized for July. The cost of all merchandise sold was 65% of the sales price.
July
1
The founder, N. Richmond, invests $80,000 in cash.
6
Sell merchandise on account to Abi Co. $6,200 terms 1/10, n/30.
7
Make cash sales totaling $6,000.
8
Sell merchandise on account to S. Beauty $3,600, terms 1/10, n/30.
10
Sell merchandise on account to W. Pitts $4,900, terms 1/10, n/30.
13
Receive payment in full from S. Beauty.
16
Receive payment in full from W. Pitts.
20
Receive payment in full from Abi Co.
21
Sell merchandise on account to H. Prince $5,000, terms 1/10, n/30.
29
Returned damaged goods to N. Fielding and received cash refund of $420.
Instructions
(a) Open the following accounts in the general ledger.
101
Cash
112
Accounts Receivable
120
Inventory
127
Supplies
131
Prepaid Rent
201
Accounts Payable
301
Owner’s Capital
306
Owner’s Drawings
401
Sales Revenue
414
Sales Discounts
505
Cost of Goods Sold
631
Supplies Expense
729
Rent Expense
(b) Journalize the transactions that have not been journalized in the sales journal, the cash receipts journal (see Illustration 7 9), and the general journal.
(c) Post to the accounts receivable and accounts payable subsidiary ledgers. Follow the sequence of transactions as shown in the problem.
(d) Post the individual entries and totals to the general ledger.
(e) Prepare a trial balance at July 31, 2012.
(f) Determine whether the subsidiary ledgers agree with the control accounts in the general ledger.
(g) The following adjustments at the end of July are necessary.
(1) A count of supplies indicates that $140 is still on hand.
(2) Recognize rent expense for July, $500.
Prepare the necessary entries in the general journal. Post the entries to the general ledger.
(h) Prepare an adjusted trial balance at July 31, 2012.
The post closing trial balance for Bugeja Co. is show.
BUGEJA CO.
Post Closing Trial Balance
December 31, 2012
Debit
Credit
Cash
$ 41,500
Accounts Receivable
15,000
Notes Receivable
45,000
Inventory
23,000
Equipment
6,450
Accumulated Depreciation—Equipment
$ 1,500
Accounts Payable
43,000
Owner’s Capital
86,450
Cash
$130,950
$130,950
The subsidiary ledgers contain the following information: (1) accounts receivable— B. Cordelia $2,500, I. Togo $7,500, T. Dudley $5,000; (2) accounts payable—T. Igawa $10,000, D. Miranda $18,000, and K. Inwood $15,000. The cost of all merchandise sold was 60% of the sales price.
The transactions for January 2013 are as follows.
Jan.
3
Sell merchandise to M. Rensing $5,000, terms 2/10, n/30.
5
Purchase merchandise from E. Vietti $2,000, terms 2/10, n/30.
7
Receive a check from T. Dudley $3,500.
11
Pay freight on merchandise purchased $300.
12
Pay rent of $1,000 for January.
13
Receive payment in full from M. Rensing.
14
Post all entries to the subsidiary ledgers. Issued credit of $300 to B. Cordelia for
returned merchandise.
15
Send K. Inwood a check for $14,850 in full payment of account, discount $150.
17
Purchase merchandise from G. Marley $1,600, terms 2/10, n/30.
18
Pay sales salaries of $2,800 and office salaries $2,000.
20
Give D. Miranda a 60 day note for $18,000 in full payment of account payable.
23
Total cash sales amount to $9,100.
24
Post all entries to the subsidiary ledgers. Sell merchandise on account to I. Togo $7,400,
terms 1/10, n/30.
27
Send E. Vietti a check for $950.
29
Receive payment on a note of $40,000 from B. Lemke.
30
Post all entries to the subsidiary ledgers. Return merchandise of $300 to G. Marley for credit.
Instructions
(a) Open general and subsidiary ledger accounts for the following.
101
Cash
301
Owner’s Capital
112
Accounts Receivable
401
Sales Revenue
115
Notes Receivable
412
Sales Returns and Allowances
120
Inventory
414
Sales Discounts
157
Equipment
505
Cost of Goods Sold
158
Accumulated Depreciation—Equipment
726
Salaries and Wages Expense
200
Notes Payable
729
Rent Expense
201
Accounts Payable
301
Owner’s Capital
(b) Record the January transactions in a sales journal, a single column purchases journal, a cash receipts journal (see Illustration 7 9), a cash payments journal and a general journal.
(c) Post the appropriate amounts to the general ledger.
(d) Prepare a trial balance at January 31, 2013.
(e) Determine whether the subsidiary ledgers agree with controlling accounts in the general ledger.
Feig Company’s chart of accounts includes the following selected accounts.
101
Cash
112
Accounts Receivable
120
Inventory
301
Owner’s Capital
401
Sales Revenue
414
Sales Discounts
505
Cost of Goods Sold
On June 1, the accounts receivable ledger of Feig Company showed the following balances: Kwapis & Son $3,500, Einhorn Co. $2,800, Randall Bros. $2,400, and Daniels Co. $2,000. The June transactions involving the receipt of cash were as follows.
June
1
The owner, Paul Feig, invested additional cash in the business $12,000.
3
Received check in full from Daniels Co. less 2% cash discount.
6
Received check in full from Einhorn Co. less 2% cash discount.
7
Made cash sales of merchandise totaling $8,700. The cost of the merchandise sold was
$5,000.
9
Received check in full from Kwapis & Son less 2% cash discount.
11
Received cash refund from a supplier for damaged merchandise $450.
15
Made cash sales of merchandise totaling $6,500. The cost of the merchandise sold was
$4,000.
20
Received check in full from Randall Bros. $2,400.
Instructions
(a) Journalize the transactions above in a six column cash receipts journal with columns for Cash Dr., Sales Discounts Dr., Accounts Receivable Cr., Sales Revenue Cr., Other Accounts Cr., and Cost of Goods Sold Dr./Inventory Cr. Foot and cross foot the journal.
(b) Insert the beginning balances in the Accounts Receivable control and subsidiary accounts,
and post the June transactions to these accounts.
(c) Prove the agreement of the control account and subsidiary account balances.
Dunder Miffl in Company’s chart of accounts includes the following selected accounts.
101
Cash
120
Inventory
130
Prepaid Insurance
157
Equipment
201
Accounts Payable
306
Owner’s Drawings
On November 1, the accounts payable ledger of Dunder Miffl in Company showed the following balances: S. Carell $4,000, D. Schrute $2,100, R. Wilson $800, and W. Rainn $1,300. The November transactions involving the payment of cash were as follows.
Nov.
1
Purchased merchandise, check no. 11, $950.
3
Purchased store equipment, check no. 12, $1,400.
5
Paid W. Rainn balance due of $1,300, less 1% discount, check no. 13, $1,287.
11
Purchased merchandise, check no. 14, $1,700.
15
Paid R. Wilson balance due of $800, less 3% discount, check no. 15, $776.
16
M. Scott, the owner, withdrew $400 cash for own use, check no. 16.
19
Paid D. Schrute in full for invoice no. 1245, $2,100 less 2% discount, check no. 17, $2,058.
25
Paid premium due on one year insurance policy, check no. 18, $2,400.
30
Paid S. Carell in full for invoice no. 832, $2,900, check no. 19.
Instructions
(a) Journalize the transactions above in a four column cash payments journal with columns for Other Accounts Dr., Accounts Payable Dr., Inventory Cr., and Cash Cr. Foot and cross foot the journal.
(b) Insert the beginning balances in the Accounts Payable control and subsidiary accounts, and post the November transactions to these accounts.
(c) Prove the agreement of the control account and the subsidiary account balances.
The chart of accounts of Sabre Company includes the following selected accounts.
112
Accounts Receivable
401
Sales Revenue
120
Inventory
412
Sales Returns and Allowances
126
Supplies
505
Cost of Goods Sold
157
Equipment
610
Advertising Expense
201
Accounts Payable
In May, the following selected transactions were completed. All purchases and sales were on account except as indicated. The cost of all merchandise sold was 60% of the sales price.
May
2
Purchased merchandise from Halpert Company $5,000.
3
Received freight bill from Fast Freight on Halpert purchase $250.
5
Sales were made to Krasinski Company $1,300, Coen Bros. $1,800, and Lucy Company
$1,000.
8
Purchased merchandise from Beesly Company $5,400 and Fischer Company $3,000.
10
Received credit on merchandise returned to Fischer Company $350.
15
Purchased supplies from Jenna’s Supplies $600.
16
Purchased merchandise from Halpert Company $3,100, and Beesly Company $4,800.
17
Returned supplies to Jenna’s Supplies, receiving credit $70. (Hint: Credit Supplies.)
18
Received freight bills on May 16 purchases from Fast Freight $325.
20
Returned merchandise to Halpert Company receiving credit $200.
23
Made sales to Coen Bros. $1,600 and to Lucy Company $2,500.
25
Received bill for advertising from Ole Advertising $620.
26
Granted allowance to Lucy Company for merchandise damaged in shipment $140.
28
Purchased equipment from Jenna’s Supplies $400.
Instructions
(a) Journalize the transactions above in a purchases journal, a sales journal, and a general journal. The purchases journal should have the following column headings: Date, Account Credited (Debited), Ref., Accounts Payable Cr., Inventory Dr., and Other Accounts Dr.
(b) Post to both the general and subsidiary ledger accounts. (Assume that all accounts have zero beginning balances.)
(c) Prove the agreement of the control and subsidiary accounts.
Selected accounts from the chart of accounts of Malone Company are shown below.
101
Cash
201
Accounts Payable
112
Accounts Receivable
401
Sales Revenue
120
Inventory
414
Sales Discounts
126
Supplies
505
Cost of Goods Sold
140
Land
610
Advertising Expense
145
Buildings
The cost of all merchandise sold was 65% of the sales price. During October, Malone Company completed the following transactions.
2
Purchased merchandise on account from Ryan Company $12,000.
4
Sold merchandise on account to Howard Co. $5,600. Invoice no. 204, terms 2/10, n/30.
5
Purchased supplies for cash $60.
7
Made cash sales for the week totaling $6,700.
9
Paid in full the amount owed Ryan Company less a 2% discount.
10
Purchased merchandise on account from Arduino Corp. $2,600.
12
Received payment from Howard Co. for invoice no. 204.
13
Returned $150 worth of damaged goods purchased on account from Arduino Corp. on
October 10.
14
Made cash sales for the week totaling $6,000.
16
Sold a parcel of land for $20,000 cash, the land’s original cost.
17
Sold merchandise on account to BJ’s Warehouse $3,900, invoice no. 205, terms 2/10, n/30.
18
Purchased merchandise for cash $1,600.
21
Made cash sales for the week totaling $6,000.
23
Paid in full the amount owed Arduino Corp. for the goods kept (no discount).
25
Purchased supplies on account from Paul Martin Co. $190.
25
Sold merchandise on account to David Corp. $3,800, invoice no. 206, terms 2/10, n/30.
25
Received payment from BJ’s Warehouse for invoice no. 205.
26
Purchased for cash a small parcel of land and a building on the land to use as a storage facility.
The total cost of $26,000 was allocated $16,000 to the land and $10,000 to the building.
27
Purchased merchandise on account from Novak Co. $6,200.
28
Made cash sales for the week totaling $5,500.
30
Purchased merchandise on account from Ryan Company $10,000.
30
Paid advertising bill for the month from the Gazette, $290.
30
Sold merchandise on account to BJ’s Warehouse $3,400, invoice no. 207, terms 2/10, n/30.
Malone Company uses the following journals.
1. Sales journal.
2. Single column purchases journal.
3. Cash receipts journal with columns for Cash Dr., Sales Discounts Dr., Accounts Receivable Cr., Sales Revenue Cr., Other Accounts Cr., and Cost of Goods Sold Dr./Inventory Cr.
4. Cash payments journal with columns for Other Accounts Dr., Accounts Payable Dr., Inventory Cr., and Cash Cr.
5. General journal.
Instructions
Using the selected accounts provided:
(a) Record the October transactions in the appropriate journals.
(b) Foot and cross foot all special journals.
(c) Show how postings would be made by placing ledger account numbers and check marks as needed in the journals. (Actual posting to ledger accounts is not required.)
Brad Company sells ships. Each ship sells for over $25 million. Brad never starts building a ship until it receives a specific order from a customer. Brad usually takes about four years to build a ship. After construction is completed and during the first three years the customer uses the ship, Brad agrees to repair anything on the ship free of charge. The customers pay for the ships over
a period of ten years after the date of delivery. Brad Company is considering the following alternatives for recognizing revenue from its sale of ships:
a. Recognize revenue when Brad receives the order to do the job.
b. Recognize revenue when Brad begins the work.
c. Recognize revenue proportionately during the four year construction period.
d. Recognize revenue immediately after the customer takes possession of the ship.
e. Wait until the three year guarantee period is over before recognizing any revenue.
f. Wait until the ten year payment period is over before recognizing any revenue.
Required
1. Which of the methods, (a) through (f), should Brad use to recognize revenue? Support your answer.
2. Interpretive Question: A member of Congress has introduced a bill that would require the SEC to crack down on lenient revenue recognition practices by shipbuilding companies. This bill would require Brad Company to use method (f) above. The logic behind the congressperson s bill is that no revenue should ever be recognized until the complete amount of cash is in hand. You have been hired as a lobbyist by Brad Company to speak against this bill. What arguments would you use on Capitol Hill to sway representatives to vote against this bill?
The Ho Man Tin Tennis Club sells lifetime memberships for $20,000 each. A lifetime membership entitles a person to unlimited access to the club s tennis courts, weight room, exercise equipment, and swimming pool. Once a lifetime membership fee is paid, it is not refundable for any reason. Judy Chan and her partners are the owners of Ho Man Tin Tennis Club. In order to overcome a cash shortage, they intend to seek investment funds from new partners. Judy and her partners are meeting with their accountant to provide information for preparation of financial statements. They are considering when they should recognize revenue from the sale of lifetime memberships.
Answer the following questions:
Required
1. When should the lifetime membership fees be recognized as revenue? Remember, they are nonrefundable.
2. Interpretive Question: What incentives would Judy and her partners have for recognizing the entire amount of the lifetime membership fee as revenue at the time it is collected? Since the entire amount will ultimately be recognized anyway, what difference does the timing make?
Mac Faber was the controller of the Lewiston National Bank. In his position of controller, he was in charge of all accounting functions. He wrote cashier s checks for the bank and reconciled the bank statement. He alone could approve exceptions to credit limits for bank customers, and even the internal auditors reported to him. Unknown to the bank, Mac had recently divorced and was supporting two households. In addition, many of his personal investments had soured, including a major farm implement dealership that had lost $40,000 in the last year. Several months after Mac had left the bank for another job, it was discovered that a vendor had paid twice and that the second payment had been deposited in Mac s personal account. Because Mac was not there to cover his tracks (as he had been on previous occasions), an investigation ensued. It was determined that Mac had used his position in the bank to steal $117,000 over a period of two years. Mac was prosecuted and sentenced to 30 months in a federal penitentiary.
Required
1.What internal control weaknesses allowed Mac to perpetrate the fraud?
Boulder View Corporation accounts for uncollectible accounts receivable using the allowance method. As of December 31, 2002, the credit balance in Allowance for Bad Debts was $130,000. During 2003, credit sales totaled $10,000,000, $90,000 of accounts receivable were written off as uncollectible, and recoveries of accounts previously written off amounted to $15,000. An agingof accounts receivable at December 31, 2003, showed the following:
Classification of Receivable
Accounts Receivable
Balance as of
31 Dec 03
Percentage Estimated
Uncollectible
Current
$1,140,000
2%
1 30 days past due
600,000
10
31 60 days past due
400,000
23
Over 60 days past due .
120,000
75
$2,260,000
Required
1. Prepare the journal entry to record bad debt expense for 2003, assuming bad debts are estimated using the aging of receivables method.
2. Record journal entries to account for the actual write off of $90,000 uncollectible accounts receivable and the collection of $15,000 in receivables that had previously been written off.
Juniper Company was formed in 1993. Sales have increased on the average of 5% per year during its first ten years of existence, with total sales for 2002 amounting to $400,000. Since incorporation, Juniper Company has used the allowance method to account for uncollectible accounts receivable. On January 1, 2003, the company s Allowance for Bad Debts had a credit balance of $5,000. During 2003, accounts totaling $3,500 were written off as uncollectible.
Required
1. What does the January 1, 2003, credit balance of $5,000 in Allowance for Bad Debts represent?
2. Since Juniper Company wrote off $3,500 in uncollectible accounts receivable during 2003, was the prior year s estimate of uncollectible accounts receivable overstated?
3. Prepare journal entries to record:
a. The $3,500 write off of receivables during 2003.
b. Juniper Company s 2003 bad debt expense, assuming an aging of the December 31, 2003, accounts receivable indicates that potential uncollectible accounts at year end total $9,000.
During 2003, Wishbone Corporation had a total of $5,000,000 in sales, of which 80% were on credit. At year end, the Accounts Receivable balance showed a total of $2,300,000, which had been aged as follows:
Age
Amount
Current
1,900,000
1 30 days past due
200,000
31 60 days past due .
100,000
61 90 days past due .
70,000
Over 90 days past due.
$30,000
$2,300,000
Required
Prepare the journal entry required at year end to record the bad debt expense under each of the following independent conditions. Assume, where applicable, that Allowance for Bad Debts had a credit balance of $5,500 immediately before these adjustments.
1. Use the direct write off method. (Assume that $60,000 of accounts are determined to be uncollectible and are written off in a single year end entry.)
2. Based on experience, uncollectible accounts existing at year end are estimated to be 3% of total accounts receivable.
3. Based on experience, uncollectible accounts are estimated to be the sum of:
Ulysis Corporation makes and sells clothing to fashion stores throughout the country. On December
31, 2003, before adjusting entries were made, it had the following account balances on its books:
Accounts receivable
2,320,000
Sales revenue, 2003 (60% were credit sales)
16,000,000
Allowance for bad debts (credit balance)
4,000
1. Make the appropriate adjusting entry on December 31, 2003, to record the allowance for bad debts if uncollectible accounts receivable are estimated to be 3% of accounts receivable.
2. Make the appropriate adjusting entry on December 31, 2003, to record the allowance for bad debts if uncollectible accounts receivable are estimated on the basis of an aging of accounts receivable; the aging schedule reveals the following:
Balance of Accounts
Receivable
Percent Estimated to
Become Uncollectible
Current
1,200,000
0.50%
1 30 days past due . .
800,000
1
31 60 days past due .
200,000
4
61 90 days past due .
80,000
20
Over 90 days past due.
40,000
30
3. Now assume that on March 3, 2004, it was determined that a $64,000 account receivable from Petite Corners is uncollectible. Record the bad debt, assuming:
a. The direct write off method is used.
b. The allowance method is used.
4. Further assume that on June 4, 2004, Petite Corners paid this previously written off debt of $64,000. Record the payment, assuming:
a. The direct write off method had been used on March 3 to record the bad debt.
b. The allowance method had been used on March 3 to record the bad debt.
5. Interpretive Question: Which method of accounting for bad debts, direct write off or allowance, is generally used? Why?
B. J. Ortiz Wholesale Corp. uses the LIFO method of inventory costing. In the current year, profit at B. J. Ortiz is running unusually high. The corporate tax rate is also high this year, but it is scheduled to decline significantly next year. In an effort to lower the current year’s net income and to take advantage of the changing income tax rate, the president of B. J. Ortiz Wholesale instructs the plant accountant to recommend to the purchasing department a large purchase of inventory for delivery 3 days before the end of the year. The price of the inventory to be purchased has doubled during the year, and the purchase will represent a major portion of the ending inventory value.
Instructions
(a) What is the effect of this transaction on this year’s and next year’s income statement and income tax expense? Why?
(b) If B. J. Ortiz Wholesale had been using the FIFO method of inventory costing, would the president give the same directive?
(c) Should the plant accountant order the inventory purchase to lower income? What are the ethical implications of this order?
Franklin Company has the following four items in its ending inventory as of December 31, 2012. The company uses the lower of cost or net realizable value approach for inventory valuation following IFRS.
Item No.
Cost
Net Realizable Value
AB
$1,700
$1,400
TRX
2,200
2,300
NWA
7,800
7,100
SGH
3,000
3,700
Compute the lower of cost or net realizable value.
Presented below is information related to Sims Company for its first month of operations. Determine the balances that appear in the accounts payable subsidiary ledger. What Accounts Payable balance appears in the general ledger at the end of January?
Presented below is information related to Chung Company for its first month of operations. Determine the balances that appear in the accounts payable subsidiary ledger. What Accounts Payable balance appears in the general ledger at the end of January?
Dotel Company’s cash receipts journal includes an Accounts Receivable column and an Other Accounts column. At the end of the month, these columns are posted to the general ledger as:
Here is a list of words or phrases related to computerized accounting systems.
1. Entry level software.
2. Enterprise resource planning systems.
3. Network compatible.
4. Audit trail.
5. Internal control.
Instructions
Match each word or phrase with the best description of it.
(a) Allows multiple users to access the system at the same time.
(b) Enables the tracking of all transactions.
(c) Identifies suspicious transactions or likely mistakes such as wrong account numbers or duplicate transactions.
(d) Large scale computer systems that integrate all aspects of the organization including accounting, sales, human resource management, and manufacturing.
(e) System for companies with revenues of less than $5 million and up to 20 employees.
Benji Borke has prepared the following list of statements about accounting information systems.
1. The accounting information system includes each of the steps of the accounting cycle, the documents that provide evidence of transactions that have occurred, and the accounting records.
2. The benefits obtained from information provided by the accounting information system need not outweigh the cost of providing that information.
3. Designers of accounting systems must consider the needs and knowledge of various users.
4. If an accounting information system is cost effective and provides useful output, it does not need to be flexible.
Instructions
Identify each statement as true or false. If false, indicate how to correct the statement.
Ruz Company uses both special journals and a general journal as described in this chapter. On June 30, after all monthly postings had been completed, the Accounts Receivable control account in the general ledger had a debit balance of $320,000; the Accounts Payable control account had a credit balance of $77,000.
The July transactions recorded in the special journals are summarized below. No entries affecting accounts receivable and accounts payable were recorded in the general journal for July.
Sales journal
Total sales $161,400
Purchases journal
Total purchases $56,400
Cash receipts journal
Accounts receivable column total $131,000
Cash payments journal
Accounts payable column total $47,500
Instructions
(a) What is the balance of the Accounts Receivable control account after the monthly postings on July 31?
(b) What is the balance of the Accounts Payable control account after the monthly postings on July 31?
(c) To what account(s) is the column total of $161,400 in the sales journal posted?
(d) To what account(s) is the accounts receivable column total of $131,000 in the cash receipts journal posted?
On September 1, the balance of the Accounts Receivable control account in the general ledger of Joss Whedon Company was $10,960. The customers’ subsidiary ledger contained account balances as follows: Gareth $1,440, Gillum $2,640, Minear $2,060, Edlund $4,820. At the end of September, the various journals contained the following information.
Sales journal: Sales to Edlund $800; to Gareth $1,260; to Molina $1,330; to Minear $1,100.
Cash receipts journal: Cash received from Minear $1,310; from Edlund $2,300; from Molina $380; from Gillum $1,800; from Gareth $1,240.
General journal: An allowance is granted to Edlund $220.
Instructions
(a) Set up control and subsidiary accounts and enter the beginning balances. Do not construct the journals.
(b) Post the various journals. Post the items as individual items or as totals, whichever would be the appropriate procedure. (No sales discounts given.)
(c) Prepare a list of customers and prove the agreement of the controlling account with the subsidiary ledger at September 30, 2012.
Malcolnn Reynolds Company has a balance in its Accounts Receivable control account of $11,000 on January 1, 2012. The subsidiary ledger contains three accounts: Nathan Company, balance $4,000; Fillion Company, balance $2,500; and Lassak Company. During January, the following receivable related transactions occurred.
Credit Sales
Collections
Returns
Nathan Company
$9,000
$8,000
$ 0
Fillion Company
7,000
2,500
3,000
Lassak Company
8,500
9,000
0
Instructions
(a) What is the January 1 balance in the Lassak Company subsidiary account?
(b) What is the January 31 balance in the control account?
(c) Compute the balances in the subsidiary accounts at the end of the month.
(d) Which January transaction would not be recorded in a special journal?
Zoe Washburne Company has a balance in its Accounts Payable control account of $7,858 on January 1, 2012. The subsidiary ledger contains three accounts: Gina Company, balance $3,248; Torres Company, balance $1,625; and Wankum Company. During January, the following payable related transactions occurred
Purchases
Payments
Returns
Gina Company
$6,441
$5,689
$ 0
Torres Company
5,617
1,625
2,461
Wankum Company
6,772
6,453
0
Instructions
What is the January 1 balance in the Wankum Company subsidiary account? $
What is the January 31 balance in the control account? $
Compute the balances in the subsidiary accounts at the end of the month.
Gina
$
Torres
$
Wankum
$
Which January transaction would not be recorded in a special journal?
Below are some typical transactions incurred by Ricketts Company.
1.
Payment of creditors on account.
2.
Return of merchandise sold for credit.
3.
Collection on account from customers.
4.
Sale of land for cash.
5.
Sale of merchandise on account.
6.
Sale of merchandise for cash.
7.
Received credit for merchandise purchased on credit.
8.
Sales discount taken on goods sold.
9.
Payment of employee wages.
10.
Income summary closed to owner’s capital.
11.
Depreciation on building.
12.
Purchase of office supplies for cash.
13.
Purchase of merchandise on account.
Instructions
For each transaction, indicate whether it would normally be recorded in a cash receipts journal, cash payments journal, sales journal, single column purchases journal, or general journal.
The general ledger of Fairman Company contained the following Accounts Payable control account (in T account form). Also shown is the related subsidiary ledger.
GENERAL LEDGER
Accounts Payable
Feb. 15
General journal
1,400
Feb. 1
Balance
26,025
28
?
?
5
General journal
265
11
General journal
550
28
Purchases
13,400
Feb. 28
Balance
9,500
ACCOUNTS PAYABLE LEDGER
Adelai
Feb. 28
Bal. 4,600
Niska
Feb. 28
Bal. ?
Badger
Feb. 28
Bal. 2,300
Instructions
(a) Indicate the missing posting reference and amount in the control account, and the missing ending balance in the subsidiary ledger.
(b) Indicate the amounts in the control account that were dual posted (i.e., posted to the control account and the subsidiary accounts).
Kyoto Distribution markets CDs of the performing artist A. A. Bondy. At the beginning of March, Kyoto had in beginning inventory 1,500 Bondy CDs with a unit cost of $7. During March Kyoto made the following purchases of Bondy CDs.
March 5
3,000 @ $8
March 21
4,000 @ $10
March 13
5,500 @ $9
March 26
2,000 @ $11
During March 12,500 units were sold. Kyoto uses a periodic inventory system.
Instructions
(a) Determine the cost of goods available for sale.
(b) Determine (1) the ending inventory and (2) the cost of goods sold under each of the assumed cost flow methods (FIFO, LIFO, and average cost). Prove the accuracy of the cost of goods sold under the FIFO and LIFO methods.
(c) Which cost flow method results in (1) the highest inventory amount for the balance sheet and (2) the highest cost of goods sold for the income statement?
Lu Company had a beginning inventory of 400 units of Product Ribo at a cost of $8 per unit. During the year, purchases were:
Feb. 20
600 units at $9
Aug. 12
300 units at $11
May 5
500 units at $10
Dec. 8
200 units at $12
Lu Company uses a periodic inventory system. Sales totaled 1,500 units.
Instructions
(a) Determine the cost of goods available for sale.
(b) Determine (1) the ending inventory, and (2) the cost of goods sold under each of the assumed cost flow methods (FIFO, LIFO, and average). Prove the accuracy of the cost of goods sold under the FIFO and LIFO methods.
(c) Which cost flow method results in (1) the lowest inventory amount for the balance sheet, and (2) the lowest cost of goods sold for the income statement?
The management of Reiko Co. is reevaluating the appropriateness of using its present inventory cost flow method, which is average cost. They request your help in determining the results of operations for 2012 if either the FIFO method or the LIFO method had been used. For 2012, the accounting records show the following data.
Inventories
Purchases and Sales
Beginning (15,000 units)
$32,000
Total net sales (215,000 units)
$865,000
Ending (30,000 units)
Total cost of goods purchased
(230,000 units)
595,000
Purchases were made quarterly as follows.
Quarter
Units
Unit Cost
Total Cost
1
60,000
$2.40
$144,000
2
50,000
2.50
125,000
3
50,000
2.60
130,000
4
70,000
2.80
196,000
230,000
$595,000
Operating expenses were $147,000, and the company’s income tax rate is 34%.
Instructions
(a) Prepare comparative condensed income statements for 2012 under FIFO and LIFO. (Show computations of ending inventory.)
(b) Answer the following questions for management.
(1) Which cost flow method (FIFO or LIFO) produces the more meaningful inventory amount for the balance sheet? Why?
(2) Which cost flow method (FIFO or LIFO) produces the more meaningful net income? Why?
(3) Which cost flow method (FIFO or LIFO) is more likely to approximate actual physical flow of the goods? Why?
(4) How much additional cash will be available for management under LIFO than under FIFO? Why?
(5) Will gross profit under the average cost method be higher or lower than (i) FIFO and (ii) LIFO?
You are provided with the following information for Aylesworth Inc. for the month ended October 31, 2012. Aylesworth uses a periodic method for inventory.
Unit Cost or
Date
Description
Units
Selling Price
October 1
Beginning inventory
60
$25
October 9
Purchase
120
26
October 11
Sale
100
35
October 17
Purchase
70
27
October 22
Sale
60
40
October 25
Purchase
80
28
October 29
Sale
110
40
Instructions
(a) Calculate (i) ending inventory, (ii) cost of goods sold, (iii) gross profit, and (iv) gross profit rate under each of the following methods.
(1) LIFO.
(2) FIFO.
(3) Average cost.
(b) Compare results for the three cost flow assumptions.
You have the following information for Goodspeed Diamonds. Goodspeed Diamonds uses the periodic method of accounting for its inventory transactions. Goodspeed only carries one brand and size of diamonds—all are identical. Each batch of diamonds purchased is carefully coded and marked with its purchase cost.
March 1
Beginning inventory 150 diamonds at a cost of $300 per diamond.
March 3
Purchased 200 diamonds at a cost of $350 each.
March 5
Sold 180 diamonds for $600 each.
March 10
Purchased 350 diamonds at a cost of $375 each.
March 25
Sold 400 diamonds for $650 each.
Instructions
(a) Assume that Goodspeed Diamonds uses the specific identification cost flow method.
(1) Demonstrate how Goodspeed Diamonds could maximize its gross profit for the month by specifically selecting which diamonds to sell on March 5 and March 25.
(2) Demonstrate how Goodspeed Diamonds could minimize its gross profit for the month by selecting which diamonds to sell on March 5 and March 25.
(b) Assume that Goodspeed Diamonds uses the FIFO cost flow assumption. Calculate cost of goods sold. How much gross profit would Goodspeed Diamonds report under this cost flow assumption?
(c) Assume that Goodspeed Diamonds uses the LIFO cost flow assumption. Calculate cost of goods sold. How much gross profit would the company report under this cost flow assumption?
(d) Which cost flow method should Goodspeed Diamonds select? Explain.
The management of Hillary Inc. asks your help in determining the comparative effects of the FIFO and LIFO inventory cost flow methods. For 2012, the accounting records provide the data.
Inventory, January 1 (10,000 units)
$ 35,000
Cost of 120,000 units purchased
504,500
Selling price of 100,000 units sold
665,000
Operating expenses
130,000
Units purchased consisted of 35,000 units at $4.00 on May 10; 60,000 units at $4.20 on August 15; and 25,000 units at $4.50 on November 20. Income taxes are 28%. Instructions
(a) Prepare comparative condensed income statements for 2012 under FIFO and LIFO. (Show computations of ending inventory.)
(b) Answer the following questions for management in the form of a business letter.
(1) Which inventory cost flow method produces the most meaningful inventory amount for the balance sheet? Why?
(2) Which inventory cost flow method produces the most meaningful net income? Why?
(3) Which inventory cost flow method is most likely to approximate the actual physical flow of the goods? Why?
(4) How much more cash will be available for management under LIFO than under FIFO? Why?
(5) How much of the gross profit under FIFO is illusionary in comparison with the gross profit under LIFO?
Yemi Ltd. is a retailer operating in Edmonton, Alberta. Yemi uses the perpetual inventory method. All sales returns from customers result in the goods being returned to inventory; the inventory is not damaged. Assume that there are no credit transactions; all amounts are settled in cash.
You are provided with the following information for Yemi Ltd. for the month of January 2012.
Unit Cost or
Date
Description
Quantity
Selling Price
December 31
Ending inventory
150
$17
January 2
Purchase
100
21
January 6
Sale
150
40
January 9
Sale return
10
40
January 9
Purchase
75
24
January 10
Purchase return
15
24
January 10
Sale
50
45
January 23
Purchase
100
28
January 30
Sale
110
50
Instructions
(a) For each of the following cost flow assumptions, calculate (i) cost of goods sold, (ii) ending inventory, and (iii) gross profit.
(1) LIFO.
(2) FIFO.
(3) Moving average cost.
(b) Compare results for the three cost flow assumptions.
Farman Appliance Mart began operations on May 1. It uses a perpetual inventory system. During May, the company had the following purchases and sales for its Model 25 Sureshot camera.
Purchases
Date
Units
Unit Cost
Sales Units
May 1
7
$150
4
4
8
8
$170
12
5
15
6
$185
20
3
25
4
Instructions
(a) Determine the ending inventory under a perpetual inventory system using (1) FIFO, (2) moving average cost, and (3) LIFO.
(b) Which costing method produces (1) the highest ending inventory valuation and (2) the lowest ending inventory valuation?
Jae Company lost 70% of its inventory in a fire on March 25, 2012. The accounting records showed the following gross profit data for February and March.
March
February
(to 3/25)
Net sales
$300,000
$250,000
Net purchases
197,800
191,000
Freight in
2,900
4,000
Beginning inventory
4,500
13,200
Ending inventory
13,200
?
Jae Company is fully insured for fire losses but must prepare a report for the insurance company.
Instructions
(a) Compute the gross profit rate for the month of February.
(b) Using the gross profit rate for February, determine both the estimated total inventory and inventory lost in the fire in March.
Marin Department Store uses the retail inventory method to estimate its monthly ending inventories. The following information is available for two of its departments at August 31, 2012.
Sporting Goods
Jewelry and Cosmetics
Cost
Retail
Cost
Retail
Net sales
$1,000,000
$1,160,000
Purchases
$675,000
1,066,000
$741,000
1,158,000
Purchase returns
(26,000)
(40,000)
(12,000)
(20,000)
Purchase discounts
(12,360)
—
(2,440)
—
Freight in
9,000
—
14,000
—
Beginning inventory
47,360
74,000
39,440
62,000
At December 31, Marin Department Store takes a physical inventory at retail. The actual retail values of the inventories in each department are Sporting Goods $95,000, and Jewelry and Cosmetics $44,000.
Instructions
(a) Determine the estimated cost of the ending inventory for each department on August 31, 2012, using the retail inventory method.
(b) Compute the ending inventory at cost for each department at December 31, assuming the cost to retail ratios are 60% for Sporting Goods and 64% for Jewelry and Cosmetics.
Titus Manin Black Limited is trying to determine the value of its ending inventory as of February 28, 2012, the company’s year end. The following transactions occurred, and the accountant asked your help in determining whether they should be recorded or not.
(a) On February 26, Titus shipped goods costing $800 to a customer and charged the customer $1,000. The goods were shipped with terms FOB shipping point and the receiving report indicates that the customer received the goods on March 2.
(b) On February 26, Welliver Inc. shipped goods to Titus under terms FOB shipping point. The invoice price was $450 plus $30 for freight. The receiving report indicates that the goods were received by Titus on March 2.
(c) Titus had $650 of inventory isolated in the warehouse. The inventory is designated for a customer who has requested that the goods be shipped on March 10.
(d) Also included in Titus’s warehouse is $700 of inventory that Ishii Producers shipped to Titus on consignment.
(e) On February 26, Titus issued a purchase order to acquire goods costing $900. The goods were shipped with terms FOB destination on February 27. Titus received the goods on March 2.
(f) On February 26, Titus shipped goods to a customer under terms FOB destination. The invoice price was $350; the cost of the items was $200. The receiving report indicates that the goods were received by the customer on March 2.
Instructions
For each of the above transactions, specify whether the item in question should be included in ending inventory, and if so, at what amount.
Achilles Distribution markets CDs of the performing artist Vandyver. At the beginning of October, Achilles had in beginning inventory 2,000 of Vandyver’s CDs with a unit cost of $7. During October Achilles made the following purchases of Vandyver’s CDs.
Oct. 3
3,000 @ $8
Oct. 19
3,000 @ $10
Oct. 9
3,500 @ $9
Oct. 25
3,500 @ $11
During October, 11,400 units were sold. Achilles uses a periodic inventory system.
Instructions
(a) Determine the cost of goods available for sale.
(b) Determine (1) the ending inventory and (2) the cost of goods sold under each of the assumed cost flow methods (FIFO, LIFO, and average cost). Prove the accuracy of the cost of goods sold under the FIFO and LIFO methods.
(c) Which cost flow method results in (1) the highest inventory amount for the balance sheet and (2) the highest cost of goods sold for the income statement?
Gacis Company had a beginning inventory on January 1 of 150 units of Product 4 18 15 at a cost of $20 per unit. During the year, the following purchases were made.
Mar. 15
400 units at $23
Sept. 4
350 units at $26
July 20
250 units at $24
Dec. 2
100 units at $29
1,000 units were sold. Gacis Company uses a periodic inventory system.
Instructions
(a) Determine the cost of goods available for sale.
(b) Determine (1) the ending inventory, and (2) the cost of goods sold under each of the assumed cost flow methods (FIFO, LIFO, and average cost). Prove the accuracy of the cost of goods sold under the FIFO and LIFO methods.
(c) Which cost flow method results in (1) the highest inventory amount for the balance sheet, and (2) the highest cost of goods sold for the income statement?
You are provided with the following information for Guillaume Inc. for the month ended June 30, 2012. Guillaume uses the periodic method for inventory.
Unit Cost or
Date
Description
Quantity
Selling Price
June 1
Beginning inventory
40
$40
June 4
Purchase
135
44
June 10
Sale
110
70
June 11
Sale return
15
70
June 18
Purchase
55
46
June 18
Purchase return
10
46
June 25
Sale
65
75
June 28
Purchase
30
50
Instructions
(a) Calculate (i) ending inventory, (ii) cost of goods sold, (iii) gross profit, and (iv) gross profit rate under each of the following methods.
(1) LIFO.
(2) FIFO.
(3) Average cost.
(b) Compare results for the three cost flow assumptions.
The management of Tamara Co. asks your help in determining the comparative effects of the FIFO and LIFO inventory cost flow methods. For 2012, the accounting records provide the data.
Inventory, January 1 (10,000 units)
$ 45,000
Cost of 100,000 units purchased
532,000
Selling price of 80,000 units sold
700,000
Operating expenses
140,000
Units purchased consisted of 35,000 units at $5.10 on May 10; 35,000 units at $5.30 on August 15; and 30,000 units at $5.60 on November 20. Income taxes are 30%. Instructions
(a) Prepare comparative condensed income statements for 2012 under FIFO and LIFO. (Show computations of ending inventory.)
(b) Answer the following questions for management.
(1) Which inventory cost flow method produces the most meaningful inventory amount for the balance sheet? Why?
(2) Which inventory cost flow method produces the most meaningful net income? Why?
(3) Which inventory cost flow method is most likely to approximate actual physical flow of the goods? Why?
(4) How much additional cash will be available for management under LIFO than under FIFO? Why?
(5) How much of the gross profit under FIFO is illusory in comparison with the gross profit under LIFO?
Ticotin Inc. is a retailer operating in British Columbia. Ticotin uses the perpetual inventory method. All sales returns from customers result in the goods being returned to inventory; the inventory is not damaged. Assume that there are no credit transactions; all amounts are settled in cash. You are provided with the following information for Ticotin Inc. for the month of January 2012.
Unit Cost or
Date
Description
Quantity
Selling Price
January 1
Beginning inventory
100
$15
January 5
Purchase
150
18
January 8
Sale
110
28
January 10
Sale return
10
28
January 15
Purchase
55
20
January 16
Purchase return
5
20
January 20
Sale
80
32
January 25
Purchase
30
22
Instructions
(a) For each of the following cost flow assumptions, calculate (i) cost of goods sold, (ii) ending inventory, and (iii) gross profit.
(1) LIFO.
(2) FIFO.
(3) Moving average cost.
(b) Compare results for the three cost flow assumptions.
Farooqui Books uses the retail inventory method to estimate its monthly ending inventories. The following information is available for two of its departments at October 31, 2012.
Hardcovers
Paperbacks
Cost
Retail
Cost
Retail
Beginning inventory
$ 420,000
$ 700,000
$ 280,000
$ 360,000
Purchases
2,135,000
3,200,000
1,155,000
1,540,000
Freight in
24,000
12,000
Purchase discounts
44,000
22,000
Net sales
3,100,000
1,570,000
At December 31, Farooqui Books takes a physical inventory at retail. The actual retail values of the inventories in each department are Hardcovers $790,000 and Paperbacks $335,000.
Instructions
(a) Determine the estimated cost of the ending inventory for each department at October 31, 2012, using the retail inventory method.
(b) Compute the ending inventory at cost for each department at December 31, assuming the cost to retail ratios for the year are 65% for hardcovers and 75% for paperbacks.
The notes that accompany a company’s financial statements provide informative details that would clutter the amounts and descriptions presented in the statements. Refer to the financial statements of PepsiCo, Inc. and the Notes to Consolidated Financial Statements in Appendix A.
Instructions
Answer the following questions. Complete the requirements in millions of dollars, as shown in PepsiCo’s annual report.
(a) What did PepsiCo report for the amount of inventories in its consolidated balance sheet at December 26, 2009? At December 27, 2008?
(b) Compute the dollar amount of change and the percentage change in inventories between 2008 and 2009. Compute inventory as a percentage of current assets at December 26, 2009.
(c) How does PepsiCo value its inventories? Which inventory cost flow method does PepsiCo use? (See Notes to the Financial Statements.)
(d) What is the cost of sales (cost of goods sold) reported by PepsiCo for 2009, 2008, and 2007? Compute the percentage of cost of sales to net sales in 2009.
On April 10, 2012, fire damaged the office and warehouse of Inwood Company. Most of the accounting records were destroyed, but the following account balances were determined as of March 31, 2012: Inventory (January 1), 2012, $80,000; Sales Revenue (January 1–March 31, 2012), $180,000; Purchases (January 1–March 31, 2012), $94,000.
The company’s fiscal year ends on December 31. It uses a periodic inventory system.
From an analysis of the April bank statement, you discover cancelled checks of $4,200 for cash purchases during the period April 1–10. Deposits during the same period totaled $18,500. Of that amount, 60% were collections on accounts receivable, and the balance was cash sales.
Correspondence with the company’s principal suppliers revealed $12,400 of purchases on account from April 1 to April 10. Of that amount, $1,600 was for merchandise in transit on April 10 that was shipped FOB destination.
Correspondence with the company’s principal customers produced acknowledgments of credit sales totaling $37,000 from April 1 to April 10. It was estimated that $5,600 of credit sales will never be acknowledged or recovered from customers.
Inwood Company reached an agreement with the insurance company that its fire loss claim should be based on the average of the gross profit rates for the preceding 2 years. The financial statements for 2010 and 2011 showed the following data.
2011
2010
Net sales
$600,000
$480,000
Cost of goods purchased
404,000
356,000
Beginning inventory
60,000
40,000
Ending inventory
80,000
60,000
Inventory with a cost of $17,000 was salvaged from the fire.
Instructions
With the class divided into groups, answer the following.
(a) Determine the balances in (1) Sales Revenue and (2) Purchases at April 10.
(b) Determine the average gross profit rate for the years 2010 and 2011. (Hint: Find the gross profit rate for each year and divide the sum by 2.)
(c) Determine the inventory loss as a result of the fire, using the gross profit method.
Gerald D. Englehart Company has the following inventory, purchases, and sales data for the month of March.
Inventory:
March 1
200 units @ $4.00
$ 800
Purchases:
March 10
500 units @ $4.50
2,250
March 20
400 units @ $4.75
1,900
March 30
300 units @ $5.00
1,500
Sales:
March 15
500 units
March 25
400 units
The physical inventory count on March 31 shows 500 units on hand.
Instructions
Under a periodic inventory system, determine the cost of inventory on hand at March 31 and the cost of goods sold for March under (a) (FIFO), (b) (LIFO), and (c) average cost.
Comprehensive Do it! 1 on page 280 showed cost of goods sold computations under a periodic inventory system. Now let’s assume that Gerald D. Englehart Company uses a perpetual inventory system. The company has the same inventory, purchases, and sales data for the month of March as shown earlier:
Inventory:
March 1
200 units @ $4.00
$ 800
Purchases:
March 10
500 units @ $4.50
2,250
March 20
400 units @ $4.75
1,900
March 30
300 units @ $5.00
1,500
Sales:
March 15
500 units
March 25
400 units
The physical inventory count on March 31 shows 500 units on hand.
Instructions
Under a perpetual inventory system, determine the cost of inventory on hand at March 31 and the cost of goods sold for March under (a) FIFO, (b) LIFO, and (c) average cost.
Chau Company just took its physical inventory. The count of inventory items on hand at the company’s business locations resulted in a total inventory cost of $300,000. In reviewing the details of the count and related inventory transactions, you have discovered the following.
1. Chau has sent inventory costing $26,000 on consignment to Nikki Company. All of this inventory was at Nikki’s showrooms on December 31.
2. The company did not include in the count inventory (cost, $20,000) that was sold on December 28, terms FOB shipping point. The goods were in transit on December 31.
3. The company did not include in the count inventory (cost, $17,000) that was purchased with terms of FOB shipping point. The goods were in transit on December 31.
(a) Kiele Company sells three different categories of tools (small, medium, and large). The cost and fair value of its inventory of tools are as follows.
Cost
Fair Value
Small
$ 64,000
$ 73,000
Medium
290,000
260,000
Large
152,000
171,000
Determine the value of the company’s inventory under the lower of cost or market approach.
(b) Sanchez Company understated its 2011 ending inventory by $31,000. Determine the impact this error has on ending inventory, cost of goods sold, and owner’s equity in 2011 and 2012.
Early in 2012, Paulo Company switched to a just in time inventory system. Its sales, cost of goods sold, and inventory amounts for 2011 and 2012 are shown below.
2011
2012
Sales
$3,120,000
$3,713,000
Cost of goods sold
1,200,000
1,425,000
Beginning inventory
180,000
220,000
Ending inventory
220,000
80,000
Determine the inventory turnover and days in inventory for 2011 and 2012. Discuss the changes in the amount of inventory, the inventory turnover and days in inventory, and the amount of sales across the two years.
Balboa Bank and Trust is considering giving Rodrigo Company a loan. Before doing so, they decide that further discussions with Rodrigo’s accountant may be desirable. One area of particular concern is the inventory account, which has a year end balance of $297,000. Discussions with the accountant reveal the following.
1. Rodrigo sold goods costing $38,000 to Santoro Company, FOB shipping point, on December 28. The goods are not expected to arrive at Santoro until January 12. The goods were not included in the physical inventory because they were not in the warehouse.
2. The physical count of the inventory did not include goods costing $95,000 that were shipped to Rodrigo FOB destination on December 27 and were still in transit at year end.
3. Rodrigo received goods costing $22,000 on January 2. The goods were shipped FOB shipping point on December 26 by Penelope Co. The goods were not included in the physical count.
4. Rodrigo sold goods costing $35,000 to Naomi Co., FOB destination, on December 30. The goods were received at Naomi on January 8. They were not included in Rodrigo’s physical inventory.
5. Rodrigo received goods costing $44,000 on January 2 that were shipped FOB destination on December 29. The shipment was a rush order that was supposed to arrive December 31. This purchase was included in the ending inventory of $297,000.
Instructions
Determine the correct inventory amount on December 31.
Marsha Thomason, an auditor with Dorrit CPAs, is performing a review of Mikhail Company’s inventory account. Mikhail did not have a good year and top management is under pressure to boost reported income. According to its records, the inventory balance at year end was $740,000. However, the following information was not considered when determining that amount.
1. Included in the company’s count were goods with a cost of $250,000 that the company is holding on consignment. The goods belong to Bakunin Corporation.
2. The physical count did not include goods purchased by Mikhail with a cost of $40,000 that were shipped FOB destination on December 28 and did not arrive at Mikhail’s warehouse until January 3.
3. Included in the inventory account was $17,000 of office supplies that were stored in the warehouse and were to be used by the company’s supervisors and managers during the coming year.
4. The company received an order on December 29 that was boxed and was sitting on the loading dock awaiting pick up on December 31. The shipper picked up the goods on January 1 and delivered them on January 6. The shipping terms were FOB shipping point. The goods had a selling price of $40,000 and a cost of $30,000. The goods were not included in the count because they were sitting on the dock.
5. On December 29, Mikhail shipped goods with a selling price of $80,000 and a cost of $60,000 to Omar Sales Corporation FOB shipping point. The goods arrived on January 3. Omar Sales had only ordered goods with a selling price of $10,000 and a cost of $8,000. However, a sales manager at Mikhail had authorized the shipment and said that if Omar wanted to ship the goods back next week, it could.
6. Included in the count was $40,000 of goods that were parts for a machine that the company no longer made. Given the high tech nature of Mikhail’s products, it was unlikely that these obsolete parts had any other use. However, management would prefer to keep them on the books at cost, “since that is what we paid for them, after all.”
Instructions
Prepare a schedule to determine the correct inventory amount. Provide explanations for each item above, saying why you did or did not make an adjustment for each item.
On December 1, Nadia Electronics Ltd. has three DVD players left in stock. All are identical, all are priced to sell at $150. One of the three DVD players left in stock, with serial #1012, was purchased on June 1 at a cost of $100. Another, with serial #1045, was purchased on November 1 for $90. The last player, serial #1056, was purchased on November 30 for $80.
Instructions
(a) Calculate the cost of goods sold using the FIFO periodic inventory method assuming that two of the three players were sold by the end of December, Nadia Electronics’ year end.
(b) If Nadia Electronics used the specific identification method instead of the FIFO method, how might it alter its earnings by “selectively choosing” which particular players to sell to the two customers? What would Nadia’s cost of goods sold be if the company wished to minimize earnings? Maximize earnings?
(c) Which of the two inventory methods do you recommend that Nadia use? Explain why.
Andrea’s Boards sells a snowboard, Xpert, that is popular with snowboard enthusiasts. Information relating to Andrea’s purchases of Xpert snowboards during September. During the same month, 121 Xpert snowboards were sold. Andrea’s uses a periodic inventory system.
Date
Explanation
Units
Unit Cost
Total Cost
Sept. 1
Inventory
26
$ 97
$ 2,522
Sept. 12
Purchases
45
102
4,590
Sept. 19
Purchases
20
104
2,080
Sept. 26
Purchases
50
105
5,250
Totals
141
$14,442
Instructions
a) Compute the ending inventory at September 30 and cost of goods sold using the FIFO and LIFO methods. Prove the amount allocated to cost of goods sold under each method.
b) For both FIFO and LIFO, calculate the sum of ending inventory and cost of goods sold. What do you notice about the answers you found for each method?
Fionnula Co. uses a periodic inventory system. Its records show the following for the month of May, in which 65 units were sold.
Units
Unit Cost
Total Cost
May 1
Inventory
30
$ 8
$240
15
Purchases
25
11
275
24
Purchases
35
12
420
Totals
90
$935
Instructions
Compute the ending inventory at May 31 and cost of goods sold using the FIFO and LIFO methods. Prove the amount allocated to cost of goods sold under each method.
Pellegrino Watch Company reported the following income statement data for a 2 year period.
2011
2012
Sales revenue
$210,000
$250,000
Cost of goods sold
Beginning inventory
32,000
44,000
Cost of goods purchased
173,000
202,000
Cost of goods available for sale
205,000
246,000
Ending inventory
44,000
52,000
Cost of goods sold
161,000
194,000
Gross profit
$ 49,000
$ 56,000
Pellegrino uses a periodic inventory system. The inventories at January 1, 2011, and December 31, 2012, are correct. However, the ending inventory at December 31, 2011, was overstated $5,000.
Instructions
(a) Prepare correct income statement data for the 2 years.
(b) What is the cumulative effect of the inventory error on total gross profit for the 2 years?
(c) Explain in a letter to the president of Pellegrino Company what has happened— i.e., the nature of the error and its effect on the financial statements.
Information about Andrea’s Boards is presented in E6 4. Additional data regarding Andrea’s sales of Xpert snowboards are provided below. Assume that Andrea’s uses a perpetual inventory system.
Date
Units
Unit Price
Total Cost
Sept. 5
Sale
12
$199
$ 2,388
Sept. 16
Sale
50
199
9,950
Sept. 29
Sale
59
209
12,331
Totals
121
$24,669
Instructions
(a) Compute ending inventory at September 30 using FIFO, LIFO, and moving average cost.
(b) Compare ending inventory using a perpetual inventory system to ending inventory using a periodic inventory system (from E6 4).
(c) Which inventory cost flow method (FIFO, LIFO) gives the same ending inventory value under both periodic and perpetual? Which method gives different ending inventory values?
Seamus Shoe Store uses the retail inventory method for its two departments, Women’s Shoes and Men’s Shoes. The following information for each department is obtained.
Women’s
Men’s
Item
Shoes
Shoes
Beginning inventory at cost
$ 32,000
$ 45,000
Cost of goods purchased at cost
148,000
136,300
Net sales
178,000
185,000
Beginning inventory at retail
46,000
60,000
Cost of goods purchased at retail
179,000
185,000
Instructions
Compute the estimated cost of the ending inventory for each department under the retail inventory method.
Toledo Limited is trying to determine the value of its ending inventory at February 28, 2012, the company’s year end. The accountant counted everything that was in the warehouse as of February 28, which resulted in an ending inventory valuation of $48,000. However, she didn’t know how to treat the following transactions so she didn’t record them.
(a) On February 26, Toledo shipped to a customer goods costing $800. The goods were shipped
FOB shipping point, and the receiving report indicates that the customer received the goods on March 2.
(b) On February 26, Grisel Inc. shipped goods to Toledo FOB destination. The invoice price was $350. The receiving report indicates that the goods were received by Toledo on March 2.
(c) Toledo had $500 of inventory at a customer’s warehouse “on approval.” The customer was going to let Toledo know whether it wanted the merchandise by the end of the week, March 4.
(d) Toledo also had $400 of inventory on consignment at a Balboa craft shop.
(e) On February 26, Toledo ordered goods costing $750. The goods were shipped FOB shipping point on February 27. Toledo received the goods on March 1.
(f) On February 28, Toledo packaged goods and had them ready for shipping to a customer FOB destination. The invoice price was $350; the cost of the items was $250. The receiving report indicates that the goods were received by the customer on March 2.
(g) Toledo had damaged goods set aside in the warehouse because they are no longer saleable. These goods originally cost $400 and, originally, Toledo expected to sell these items for $600.
Instructions
For each of the above transactions, specify whether the item in question should be included in ending inventory, and if so, at what amount. For each item that is not included in ending inventory, indicate who owns it and what account, if any, it should have been recorded in.
Bodley Corporation has been authorized to issue 20,000 shares of $100 par value, 10%, noncumulative preferred stock and 1,000,000 shares of no par common stock. The corporation assigned a $5 stated value to the common stock. At December 31, 2010, the ledger contained the following balances pertaining to stockholders’ equity.
Preferred Stock
$ 150,000
Paid in Capital in Excess of Par Value—Preferred Stock
20,000
Common Stock
2,000,000
Paid in Capital in Excess of Stated Value—Common Stock
1,650,000
Treasury Stock—Common (5,000 shares)
55,000
Retained Earnings
82,000
The preferred stock was issued for $170,000 cash. All common stock issued was for cash. In November 5,000 shares of common stock were purchased for the treasury at a per share cost of $11. No dividends were declared in 2010.
Instructions
(a) Prepare the journal entries for the following.
(1) Issuance of preferred stock for cash.
(2) Issuance of common stock for cash.
(3) Purchase of common treasury stock for cash.
(b) Prepare the stockholders’ equity section of the balance sheet at December 31, 2010.
Parcells Company manufactures backpacks. During 2010 Parcells issued bonds at 10% interest and used the cash proceeds to purchase treasury stock. The following financial information is available for Parcells Company for the years 2010 and 2009.
2010
2009
Sales
$ 9,000,000
$ 9,000,000
Net income
2,240,000
2,600,000
Interest expense
500,000
140,000
Tax expense
670,000
780,000
Dividends paid
890,000
1,026,000
Total assets (year end)
14,500,000
16,875,000
Average total assets
14,937,500
17,647,000
Total liabilities (year end)
6,000,000
3,000,000
Aver. total common stockholders’ equity
9,400,000
14,100,000
Instructions
(a) Use the information above to calculate the following ratios for both years: (i) return on assets ratio, (ii) return on common stockholders’ equity ratio, (iii) payout ratio,
(iv) debt to total assets ratio, (v) times interest earned ratio.
(b) Referring to your findings in part (a), discuss the changes in the company’s profitability from 2009 to 2010.
(c) Referring to your findings in part (a), discuss the changes in the company’s solvency from 2009 to 2010.
(d) Based on your findings in (b), was the decision to issue debt to purchase common stock a wise one?
On January 1, 2010, Werth Corporation had these stockholders’ equity accounts.
Common Stock ($10 par value, 80,000 shares issued and outstanding)
$800,000
Paid in Capital in Excess of Par Value
500,000
Retained Earnings
620,000
During the year, the following transactions occurred.
15
Declared a $0.50 cash dividend per share to stockholders of record on January 31, payable February 15.
15
Paid the dividend declared in January.
15
Declared a 10% stock dividend to stockholders of record on April 30, distributable May 15. On April 15 the market price of the stock was $14 per share.
May
15
Issued the shares for the stock dividend.
1
Declared a $0.55 per share cash dividend to stockholders of record on December 15, payable January 10, 2011.
31
Determined that net income for the year was $400,000.
Instructions
(a) Journalize the transactions. (Include entries to close net income and dividends to Retained Earnings.)
(b) Enter the beginning balances and post the entries to the stockholders’ equity T accounts.
(c) Prepare the stockholders’ equity section of the balance sheet at December 31.
(d) Calculate the payout ratio and return on common stockholders’ equity ratio.
Cates Corporation was organized on January 1, 2010. It is authorized to issue 10,000 shares of 8%, $100 par value preferred stock and 500,000 shares of no par common stock with a stated value of $2 per share. The following stock transactions were completed during the first year.
10
Issued 60,000 shares of common stock for cash at $3.50 per share.
1
Issued 5,000 shares of preferred stock for cash at $102 per share.
May
1
Issued 90,000 shares of common stock for cash at $4 per share.
1
Issued 10,000 shares of common stock for cash at $5 per share.
1
Issued 4,000 shares of preferred stock for cash at $104 per share.
Instructions
(a) Journalize the transactions.
(b) Post to the stockholders’ equity accounts. (Use T accounts.)
(c) Prepare the paid in capital section of stockholders’ equity at December 31, 2010.
The stockholders’ equity accounts of Mota Corporation on January 1, 2010, were as follows.
Preferred Stock (7%, $50 par cumulative, 10,000 shares authorized)
$ 300,000
Common Stock ($1 stated value, 2,000,000 shares authorized)
1,000,000
Paid in Capital in Excess of Par Value—Preferred Stock
80,000
Paid in Capital in Excess of Stated Value—Common Stock
1,400,000
Retained Earnings
1,716,000
Treasury Stock—Common (10,000 shares)
30,000
During 2010 the corporation had these transactions and events pertaining to its stockholders’ equity.
1
Issued 20,000 shares of common stock for $60,000.
10
Purchased 4,000 shares of common stock for the treasury at a cost of $18,000.
15
Declared a 7% cash dividend on preferred stock, payable December 15.
1
Declared a $0.30 per share cash dividend to stockholders of record on December 15, payable December 31, 2010.
15
Paid the dividend declared on November 15.
31
Determined that net income for the year was $408,000. The market price of the common stock on this date was $5 per share. Paid the dividend declared on December 1.
Instructions
(a) Journalize the transactions. (Include entries to close net income and dividends to Retained Earnings.)
(b) Enter the beginning balances in the accounts, and post the journal entries to the stockholders’ equity accounts. (Use T accounts.)
(c) Prepare the stockholders’ equity section of the balance sheet at December 31, 2010.
(d) Calculate the payout ratio, earnings per share, and return on common stockholders’ equity ratio.
On December 31, 2009, Brant Company had 1,000,000 shares of $1 par common stock issued and outstanding. The stockholders’ equity accounts at December 31, 2009, had the balances listed here.
Common Stock
$1,000,000
Additional Paid in Capital
100,000
Retained Earnings
800,000
Transactions during 2010 and other information related to stockholders’ equity accounts were as follows.
1. On January 9, 2010, issued at $8 per share 120,000 shares of $5 par value, 9% cumulative preferred stock.
2. On February 8, 2010, reacquired 15,000 shares of its common stock for $9 per share.
3. On June 10, 2010, declared a cash dividend of $1 per share on the common stock outstanding, payable on July 10, 2010, to stockholders of record on July 1, 2010.
4. On December 15, 2010, declared the yearly cash dividend on preferred stock, payable December 28, 2010, to stockholders of record on December 15, 2010.
5. Net income for the year is $2,400,000. At December 31, 2010, the market price of the common stock was $12 per share.
Instructions
Prepare the stockholders’ equity section of Brant Company’s balance sheet at December 31, 2010.
The post closing trial balance of Fernetti Corporation at December 31, 2010, contains these stockholders’ equity accounts.
Preferred Stock (8,000 shares issued)
$400,000
Common Stock (350,000 shares issued)
3,500,000
Paid in Capital in Excess of Par Value—Preferred Stock
250,000
Paid in Capital in Excess of Par Value—Common Stock
700,000
Retained Earnings
915,000
A review of the accounting records reveals this information:
1. Preferred stock is $50 par, 10%, and cumulative; 8,000 shares have been outstanding since January 1, 2009.
2. Authorized stock is 20,000 shares of preferred and 500,000 shares of common with a $10 par value.
3. The January 1, 2010, balance in Retained Earnings was $660,000.
4. On July 1, 20,000 shares of common stock were sold for cash at $16 per share.
5. A cash dividend of $220,000 was declared and properly allocated to preferred and common stock on October 1. No dividends were paid to preferred stockholders in 2009.
6. Net income for the year was $475,000.
7. On December 31, 2010, the directors authorized disclosure of a $150,000 restriction of retained earnings for plant expansion.
Instructions
(a) Reproduce the retained earnings account for the year.
(b) Prepare the stockholders’ equity section of the balance sheet at December 31.
Willingham Company manufactures raingear. During 2010 Willingham Company decided to issue bonds at 8% interest and then used the cash to purchase a significant amount of treasury stock. The following information is available for Willingham Company.
2010
2009
Sales
$3,000,000
$3,000,000
Net income
780,000
850,000
Interest expense
120,000
50,000
Tax expense
166,000
200,000
Total assets
5,000,000
5,625,000
Average total assets
5,312,500
6,250,000
Total liabilities
2,000,000
1,200,000
Average total stockholders’ equity
3,312,500
5,250,000
Dividends
270,000
300,000
Instructions
(a) Use the information above to calculate the following ratios for both years: (i) return on assets ratio, (ii) return on common stockholders’ equity ratio, (iii) payout ratio, (iv) debt to total assets ratio, (v) times interest earned ratio.
(b) Referring to your findings in part (a), discuss the changes in the company’s profitability from 2009 to 2010.
(c) Referring to your findings in part (a), discuss the changes in the company’s solvency from 2009 to 2010.
(d) Based on your findings in (b), was the decision to issue debt to purchase common stock a wise one?
Hiatt Corporation’s balance sheet at December 31, 2009, is presented below.
HIATT CORPORATION Balance Sheet December 31, 2009
Cash
$ 24,600
Accounts payable
$ 25,600
Accounts receivable
45,500
Common stock ($10 par)
80,000
Allowance for doubtful accounts
(1,500)
Retained earnings
127,400
Supplies
4,400
$233,000
Land
40,000
Building
142,000
Accumulated depreciation building
(22,000)
$233,000
During 2010, the following transactions occurred.
1. On January 1, 2010, Hiatt issued 1,500 shares of $20 par, 7% preferred stock for $33,000.
2. On January 1, 2010, Hiatt also issued 900 shares of the $10 par value common stock for $21,000.
3. Hiatt performed services for $280,000 on account.
4. On April 1, 2010, Hiatt collected fees of $36,000 in advance for services to be performed from April 1, 2010, to March 31, 2011.
5. Hiatt collected $267,000 from customers on account.
6. Hiatt bought $35,100 of supplies on account.
7. Hiatt paid $32,200 on accounts payable.
8. Hiatt reacquired 400 shares of its common stock on June 1, 2010, for $38 per share.
9. Paid other operating expenses of $188,200.
10. On December 31, 2010, Hiatt declared the annual preferred stock dividend and a $1.20 per share dividend on the outstanding common stock, all payable on January 15, 2011.
11. An account receivable of $1,300 which originated in 2009 is written off as uncollectible.
Adjustment data:
1. A count of supplies indicates that $5,900 of supplies remain unused at year end.
2. Recorded revenue earned from item 4 above.
3. The allowance for doubtful accounts should have a balance of $3,500 at year end.
4. Depreciation is recorded on the building on a straight line basis based on a 30 year life and a salvage value of $10,000.
5. The income tax rate is 30%.
Instructions
(You may want to set up T accounts to determine ending balances.)
(a) Prepare journal entries for the transactions listed above and adjusting entries.
(b) Prepare an adjusted trial balance at December 31, 2010.
(c) Prepare an income statement and a retained earnings statement for the year ending December 31, 2010, and a classified balance sheet as of December 31, 2010.
The stockholders’ equity section of Tootsie Roll Industries’ balance sheet is shown in the Consolidated Statement of Financial Position in Appendix A. You will also find data relative to this problem on other pages of Appendix A. (Note that Tootsie Roll
has two classes of common stock. To answer the following questions, add the two classes of stock together.)
Instructions
Answer the following questions.
(a) What is the par or stated value per share of Tootsie Roll’s common stock?
(b) What percentage of Tootsie Roll’s authorized common stock was issued at December 31, 2007?
(c) How many shares of common stock were outstanding at December 31, 2006, and at December 31, 2007?
(d) Calculate the payout ratio, earnings per share, and return on common stockholders’ equity ratio for 2007.
Marriott Corporation split into two companies: Host Marriott Corporation and Marriott International. Host Marriott retained ownership of the corporation’s vast hotel and other properties, while Marriott International, rather than owning hotels, managed them. The purpose of this split was to free Marriott International from the “baggage” associated with Host Marriott, thus allowing it to be more aggressive in its pursuit of growth. The following information (in millions) is provided for each corporation for their first full year operating as independent companies.
Host Marriott
Marriott International
Sales
$1,501
$8,415
Net income
(25)
200
Total assets
3,822
3,207
Total liabilities
3,112
2,440
Common stockholders’ equity
710
767
Instructions
(a) The two companies were split by the issuance of shares of Marriott International to all shareholders of the previous combined company. Discuss the nature of this transaction.
(b) Calculate the debt to total assets ratio for each company.
(c) Calculate the return on assets and return on common stockholders’ equity ratios for each company.
(d) The company’s debtholders were fiercely opposed to the original plan to split the two companies because the original plan had Host Marriott absorbing the majority of the company’s debt. They relented only when Marriott International agreed to absorb a larger share of the debt. Discuss the possible reasons the debtholders were opposed to the plan to split the company
In recent years the fast food chain Wendy’s International has purchased many treasury shares. From December 28, 2003, to December 31, 2006, the number of shares outstanding has fallen from 115 million to 96 million. The following information was drawn from the company’s financial statements (in millions).
Year ended
Dec. 31, 2006
Dec. 28, 2003
Net income
$ 94.3
$ 236.0
Total assets
2,060.3
3,164.0
Average total assets
2,750.3
2,943.7
Total common stockholders’ equity
1,011.7
1,758.6
Average common stockholders’ equity
1,535.1
1,603.6
Total liabilities
1,048.7
1,405.4
Average total liabilities
1,215.2
1,340.1
Interest expense
35.7
45.8
Income taxes
5.4
141.6
Cash provided by operations
271.4
430.2
Cash dividends paid on common stock
69.7
27.3
Preferred stock dividends
0
0
Average number of common shares outstanding
114.2
113.9
Instructions
Use the information provided to answer the following questions.
(a) Compute earnings per share, return on common stockholders’ equity, and return on assets for both years. Discuss the change in the company’s profitability over this period.
(b) Compute the dividend payout ratio. Also compute the average cash dividend paid per share of common stock (dividends paid divided by the average number of common shares outstanding). Discuss any change in these ratios during this period and the implications for the company’s dividend policy.
(c) Compute the debt to total assets ratio and times interest earned. Discuss the change in the company’s solvency.
(d) Based on your findings in (a) and (c), discuss to what extent any change in the return on common stockholders’ equity was the result of increased reliance on debt.
The R&D division of Nanco Corp. has just developed a chemical for sterilizing the vicious Brazilian “killer bees” which are invading Mexico and the southern United States. The president of Nanco is anxious to get the chemical on the market because Nanco profits need a boost—and his job is in jeopardy because of decreasing sales and profits. Nanco has an opportunity to sell this chemical in Central American countries, where the laws are much more relaxed than in the United States. The director of Nanco’s R&D division strongly recommends further research in the laboratory to test the side effects of this chemical on other insects, birds, animals, plants, and even humans. He cautions the president, “We could be sued from all sides if the chemical has tragic side effects that we didn’t even test for in the lab.” The president answers, “We can’t wait an additional year for your lab tests. We can avoid losses from such lawsuits by establishing a separate wholly owned corporation to shield Nanco Corp. from such lawsuits. We can’t lose any more than our investment in the new corporation, and we’ll invest just the patent covering this chemical. We’ll reap the benefits if the chemical works and is safe, and avoid the losses from lawsuits if it’s a disaster.” The following week Nanco creates a new wholly owned corporation called Zimmerman Inc., sells the chemical patent to it for $10, and watches the spraying begin.
Instructions
(a) Who are the stakeholders in this situation?
(b) Are the president’s motives and actions ethical?
(c) Can Nanco shield itself against losses of Zimmerman Inc.?
Tomlinson Corporation has paid 60 consecutive quarterly cash dividends (15 years). The last 6 months have been a real cash drain on the company, however, as profit margins have been greatly narrowed by increasing competition. With a cash balance sufficient to meet only day to day operating needs, the president, Sam Ripken, has decided that a stock dividend instead of a cash dividend should be declared. He tells Tomlinson’s financial vice president, Angie Baden, to issue a press release stating that the company is extending its consecutive dividend record with the issuance of a 5% stock dividend. “Write the press release convincing the stockholders that the stock dividend is just as good as a cash dividend,” he orders. “Just watch our stock rise when we announce the stock dividend; it must be a good thing if that happens.”
Instructions
(a) Who are the stakeholders in this situation?
(b) Is there anything unethical about president Ripken’s intentions or actions?
(c) What is the effect of a stock dividend on a corporation’s stockholders’ equity accounts? Which would you rather receive as a stockholder—a cash dividend or a stock dividend? Why?
The income statement for Kosinski Manufacturing Company contains the following condensed information.
KOSINSKI MANUFACTURING COMPANY Income Statement For the Year Ended December 31, 2010
Revenues
$6,583,000
Operating expenses, excluding depreciation
$4,920,000
Depreciation expense
880,000
Income before income taxes
5,800,000
Income tax expense
783,000
Net income
353,000
$ 430,000
Included in operating expenses is a $24,000 loss resulting from the sale of machinery for $270,000 cash. Machinery was purchased at a cost of $750,000. The following balances are reported on Kosinski’s comparative balance sheet at December 31.
2010
2009
Cash
$672,000
$130,000
Accounts receivable
775,000
610,000
Inventories
834,000
867,000
Accounts payable
521,000
501,000
Income tax expense of $353,000 represents the amount paid in 2010. Dividends declared and paid in 2010 totaled $200,000.
Instructions
(a) Prepare the statement of cash flows using the indirect method.
(b) Prepare the statement of cash flows using the direct method.
(a) Tracy Company sells three different types of home heating stoves (wood, gas, and pellet). The cost and market value of its inventory of stoves are as follows.
Cost
Market
Gas
$ 84,000
$ 79,000
Wood
250,000
280,000
Pellet
112,000
101,000
Determine the value of the company’s inventory under the lower of cost or market approach.
(b) Visual Company overstated its 2011 ending inventory by $22,000. Determine the impact this error has on ending inventory, cost of goods sold, and owner’s equity in 2011 and 2012.
Early in 2012, Westmoreland Company switched to a just in time inventory system. Its sales, cost of goods sold, and inventory amounts for 2011 and 2012 are shown below.
2011
2012
Sales revenue
$2,000,000
$1,800,000
Cost of goods sold
1,000,000
910,000
Beginning inventory
290,000
210,000
Ending inventory
210,000
50,000
Determine the inventory turnover and days in inventory for 2011 and 2012. Discuss the changes in the amount of inventory, the inventory turnover and days in inventory, and the amount of sales across the two years.
Hechinger Co. and Home Depot are two home improvement retailers. Compared to Hechinger, founded in the early 1900s, Home Depot is a relative newcomer. But, in recent years, while Home Depot was reporting large increases in net income, Hechinger was reporting increasingly large net losses. Finally, largely due to competition from Home Depot, Hechinger was forced to file for bankruptcy. Here are financial data for both companies (in millions).
Hechinger
Home Depot
Cash
$ 21
$ 62
Receivables
0
469
Total current assets
1,153
4,933
Beginning total assets
1,668
11,229
Ending total assets
1,577
13,465
Beginning current liabilities
935
2,456
Ending current liabilities
938
2,857
Beginning total liabilities
1,392
4,015
Ending total liabilities
1,339
4,716
Interest expense
67
37
Income tax expense
3
1,040
Cash provided (used) by operations
(257)
1,917
Net income
(93)
1,614
Net sales
3,444
30,219
Instructions
Using the data provided, perform the following analysis.
(a) Calculate working capital and the current ratio for each company. Discuss their relative liquidity.
(b) Calculate the debt to total assets ratio and times interest earned for each company. Discuss their relative solvency.
(c) Calculate the return on assets ratio and profit margin ratio for each company. Comment on their relative profitability.
(d) The notes to Home Depot’s financial statements indicate that it leases many of its facilities using operating leases. If these assets had instead been purchased with debt, assets and liabilities would have increased by approximately $2,347 million. Calculate the company’s debt to total assets ratio employing this adjustment. Discuss the implications.
Many multinational companies find it beneficial to have their shares listed on stock exchanges in foreign countries. In order to do this, they must comply with the securities laws of those countries. Some of these laws relate to the form of financial disclosure the company must provide, including disclosures related to contingent liabilities. This exercise investigates the Tokyo Stock Exchange, the largest stock exchange in Japan.
Steps:
1. Choose About TSE.
2. Choose History of TSE. Answer questions (a) and (b).
3. Choose Listed Company information.
4. Choose Disclosure. Answer questions (c) and (d).
Instructions
Answer the following questions.
(a) When was the first stock exchange opened in Japan? How many exchanges does Japan have today?
(b) What event caused trading to stop for a period of time in Japan?
(c) What are four examples of decisions by corporations that must be disclosed at the time of their occurrence?
(d) What are four examples of “occurrence of material fact” that must be disclosed at the time of their occurrence?
On January 1, 2008, Colt Corporation issued $3,000,000 of 5 year, 8% bondsat 97. The bonds pay interest annually on January 1. By January 1, 2010, the market rate of interest for bonds of risk similar to those of Colt Corporation had risen. As a result the market value of these bonds was $2,500,000 on January 1, 2010—below their carrying value of $2,946,000. Rich Heyman, president of the company, suggests repurchasing all of these bonds in the open market at the $2,500,000 price. But to do so the company will have to issue $2,500,000 (face value) of new 10 year, 12% bonds at par. The president asks you, as controller, “What is the feasibility of my proposed repurchase plan?”
Instructions
With the class divided into groups, answer the following.
(a) Prepare the journal entry to retire the 5 year bonds on January 1, 2010. Prepare the journal entry to issue the new 10 year bonds.
(b) Prepare a short memo to the president in response to his request for advice. List the economic factors that you believe should be considered for his repurchase proposal.
The July 1998 issue of Inc.magazine includes an article by Jeffrey L. Seglin entitled “Would You Lie to Save Your Company?” It recounts the following true situation: “A Chief Executive Officer (CEO) of a $20 million company that repairs aircraft engines received notice from a number of its customers that engines that it had recently repaired had failed, and that the company’s parts were to blame. The CEO had not yet determined whether his company’s parts were, in fact, the cause of the problem. The Federal Aviation Administration (FAA) had been notified and was investigating the matter. What complicated the situation was that the company was in the midst of its year end audit. As part of the audit, the CEO was required to sign a letter saying that he was not aware of any significant outstanding circumstances that could negatively impact the company—in accounting terms, of any contingent liabilities. The auditor was not aware of the customer complaints or the FAA investigation. The company relied heavily on short term loans from eight banks. The CEO feared that if these lenders learned of the situation, they would pull their loans. The loss of these loans would force the company into bankruptcy, leaving hundreds of people without jobs. Prior to this problem, the company had a stellar performance record.”
Instructions
Answer the following questions.
(a) Who are the stakeholders in this situation?
(b) What are the CEO’s possible courses of action? What are the potential results of each course of action? (Take into account the two alternative outcomes: the FAA determines the company (1) was not at fault, and (2) was at fault.)
(c) What would you do, and why?
(d) Suppose the CEO decides to conceal the situation, and that during the next year the company is found to be at fault and is forced into bankruptcy. What losses are incurred by the stakeholders in this situation? Do you think the CEO should suffer legal consequences if he decides to conceal the situation?
During the summer of 2002 the financial press reported that Citigroup was being investigated for allegations that it had arranged transactions for Enron so as to intentionally misrepresent the nature of the transactions and consequently achieve favorable balance sheet treatment. Essentially, the deals were structured to make it appear that money was coming into Enron from trading activities, rather than from loans. A July 23, 2002, New York Timesarticle by Richard Oppel and Kurt Eichenwald entitled “Citigroup Said to Mold Deal to Help Enron Skirt Rules” suggested that Citigroup intentionally kept certain parts of a secret oral agreement out of the written record for fear that it would change the accounting treatment. Critics contend that this had the effect of significantly understating Enron’s liabilities, thus misleading investors and creditors. Citigroup maintains that, as a lender, it has no obligation to ensure that its clients account for transactions properly. The proper accounting, Citigroup insists, is the responsibility of the client and its auditor.
Instructions
Answer the following questions.
(a) Who are the stakeholders in this situation?
(b) Do you think that a lender, in general, in arranging so called “structured financing” has a responsibility to ensure that its clients account for the financing in an appropriate fashion, or is this the responsibility of the client and its auditor?
(c) What effect did the fact that the written record did not disclose all characteristics of the transaction probably have on the auditor’s ability to evaluate the accounting treatment of this transaction?
(d) The New York Timesarticle noted that in one presentation made to sell this kind of deal to Enron and other energy companies, Citigroup stated that using such an arrangement “eliminates the need for capital markets disclosure, keeping structure mechanics private.” Why might a company wish to conceal the terms of a financing arrangement from the capital markets (investors and creditors)? Is this appropriate? Do you think it is ethical for a lender to market deals in this way?
(e) Why was this deal more potentially harmful to shareholders than other off balance sheet transactions (for example, lease financing)?
Rolman Corporation is authorized to issue 1,000,000 shares of $5 par value common stock. In its first year the company has the following stock transactions.
10
Issued 400,000 shares of stock at $8 per share.
1
Purchased 10,000 shares of common stock for the treasury at $9 per share.
24
Declared a cash dividend of 10 cents per share on common stock outstanding.
Instructions
(a) Journalize the transactions.
(b) Prepare the stockholders’ equity section of the balance sheet assuming the company had retained earnings of $150,600 at December 31.
Zerbe Corporation recently hired a new accountant with extensive experience in accounting for partnerships. Because of the pressure of the new job, the accountant was unable to review what he had learned earlier about corporation accounting. During the first month, he made the following entries for the corporation’s capital stock.
May
2
Cash
120,000
Capital Stock
120,000
(Issued 10,000 shares of $10 par value common stock at $12 per share)
10
Cash
530,000
Capital Stock
530,000
(Issued 10,000 shares of $20 par value preferred stock at $53 per share)
15
Cash
7,200
Capital Stock
7,200
(Purchased 600 shares of common stock for the treasury at $12 per share)
Instructions
On the basis of the explanation for each entry, prepare the entries that should have been made for the capital stock transactions.
On January 1 Trear Corporation had 60,000 shares of no par common stock issued and outstanding. The stock has a stated value of $5 per share. During the year, the following transactions occurred.
1
Issued 8,000 additional shares of common stock for $11 per share.
June
15
Declared a cash dividend of $1.50 per share to stockholders of record on June 30.
July
10
Paid the $1.50 cash dividend.
1
Issued 4,000 additional shares of common stock for $12 per share.
15
Declared a cash dividend on outstanding shares of $1.75 per share to stockholders of record on December 31.
Instructions
(a) Prepare the entries, if any, on each of the three dates that involved dividends.
(b) How are dividends and dividends payable reported in the financial statements prepared at December 31?
Wells Fargo & Company, headquartered in San Francisco, is one of the nation’s largest financial institutions. It reported the following selected accounts (in millions) as of December 31, 2006.
Retained earnings
$35,277
Preferred stock
384
Common stock—$123 par value, authorized 6,000,000,000 shares; issued 3,472,762,050 shares
5,788
Treasury stock—95,612,189 shares
(3,203)
Additional paid in capital—common stock
7,739
Instructions
Prepare the stockholders’ equity section of the balance sheet for Wells Fargo as of December 31, 2006.
Oslo Corporation decided to issue common stock and used the $300,000 proceeds to retire all of its outstanding bonds on January 1, 2010. The following information is available for the company for 2009 and 2010.
2010
2009
Net income
$ 182,000
$ 150,000
Average stockholders’ equity
1,000,000
700,000
Total assets
1,200,000
1,200,000
Current liabilities
100,000
100,000
Total liabilities
200,000
500,000
Instructions
(a) Compute the return on stockholder’s equity ratio for both years.
(b) Explain how it is possible that net income increased, but the return on common stockholders’ equity decreased.
(c) Compute the debt to total assets ratio for both years, and comment on the implications of this change in the company’s solvency.
Alexander Company has $1,000,000 in assets and $1,000,000 in stockholders’ equity, with 50,000 shares outstanding the entire year. It has a return on assets ratio of 10%. In the past year it had net income of $100,000. On January 1, 2010, it issued $500,000 in debt at 5% and immediately repurchased 25,000 shares for $500,000. Management expected that, had it not issued the debt, it would have again had net income of $100,000.
Instructions
(a) Determine the company’s net income and earnings per share for 2009 and 2010. (Ignore taxes in your computations.)
(b) Compute the company’s return on common stockholders’ equity for 2009 and 2010.
(c) Compute the company’s debt to assets ratio for 2009 and 2010.
(d) Discuss the impact that the borrowing had on the company’s profitability and solvency. Was it a good idea to borrow the money to buy the treasury stock?
Pinson Corporation was organized on January 1, 2010. It is authorized to issue 20,000 shares of 6%, $50 par value preferred stock and 500,000 shares of no par common stock with a stated value of $1 per share. The following stock transactions were completed during the first year
10
Issued 80,000 shares of common stock for cash at $4 per share.
1
Issued 12,000 shares of preferred stock for cash at $54 per share.
May
1
Issued 120,000 shares of common stock for cash at $5 per share.
1
Issued 5,000 shares of common stock for cash at $6 per share.
1
Issued 3,000 shares of preferred stock for cash at $56 per share.
Instructions
(a) Journalize the transactions.
(b) Post to the stockholders’ equity accounts. (Use T accounts.)
(c) Prepare the paid in capital portion of the stockholders’ equity section at December 31, 2010.
On December 31, 2009, Milo Company had 1,300,000 shares of $5 par common stock issued and outstanding. The stockholders’ equity accounts at December 31, 2009, had the balances listed here.
Common Stock
$6,500,000
Additional Paid in Capital
1,800,000
Retained Earnings
1,200,000
Transactions during 2010 and other information related to stockholders’ equity accounts were as follows.
1. On January 10, 2010, issued at $109 per share 120,000 shares of $100 par value, 8% cumulative preferred stock.
2. On February 8, 2010, reacquired 20,000 shares of its common stock for $11 per share.
3. On June 8, 2010, declared a cash dividend of $1.20 per share on the common stock outstanding, payable on July 10, 2010, to stockholders of record on July 1, 2010.
4. On December 9, 2010, declared the yearly cash dividend on preferred stock, payable January 10, 2011, to stockholders of record on December 15, 2010.
5. Net income for the year was $3,600,000.
Instructions
Prepare the stockholders’ equity section of Milo’s balance sheet at December 31, 2010.
The ledger of Gamma Corporation at December 31, 2010, after the books have been closed, contains the following stockholders’ equity accounts.
Preferred Stock (10,000 shares issued)
$1,000,000
Common Stock (400,000 shares issued)
2,000,000
Paid in Capital in Excess of Par Value—Preferred Stock
200,000
Paid in Capital in Excess of Stated Value—Common Stock
1,600,000
Retained Earnings
2,860,000
A review of the accounting records reveals this information:
1. Preferred stock is 7%, $100 par value, noncumulative. Since January 1, 2009, 10,000 shares have been outstanding; 20,000 shares are authorized.
2. Common stock is no par with a stated value of $5 per share; 600,000 shares are authorized.
3. The January 1, 2010, balance in Retained Earnings was $2,380,000.
4. On October 1, 60,000 shares of common stock were sold for cash at $8 per share.
5. A cash dividend of $400,000 was declared and properly allocated to preferred and common stock on November 1. No dividends were paid to preferred stockholders in 2009.
6. Net income for the year was $880,000.
7. On December 31, 2010, the directors authorized disclosure of a $130,000 restriction of retained earnings for plant expansion.
Instructions
(a) Reproduce the retained earnings account (T account) for the year.
(b) Prepare the stockholders’ equity section of the balance sheet at December 31.
Teeter Company Ltd. publishes a monthly sports magazine, Fishing Preview. Subscriptions to the magazine cost $26 per year. During November 2010, Teeter sells 6,000 subscriptions for cash, beginning with the December issue. Teeter prepares financial statements quarterly and recognizes subscription revenue earned at the end of the quarter. The company uses the accounts Unearned Subscription Revenue and Subscription Revenue. The company has a December 31 year end.
Instructions
(a) Prepare the entry in November for the receipt of the subscriptions.
(b) Prepare the adjusting entry at December 31, 2010, to record subscription revenue earned in December 2010.
(c) Prepare the adjusting entry at March 31, 2011, to record subscription revenue earned in the first quarter of 2011.
Edmonds, Inc. reports the following liabilities (in thousands) on its January 31, 2010, balance sheet and notes to the financial statements.
Accounts payable
$4,263.9
Notes payable—long term
$6,746.7
Accrued pension liability
1,215.2
Operating leases
1,641.7
Accrued liabilities
1,258.1
Loans payable—long term
335.6
Bonds payable
1,961.2
Payroll related liabilities
558.1
Current portion of
1,992.2
Short term borrowings
2,563.6
long term debt
235.2
Unused operating line of credit
3,337.6
Income taxes payable
Warranty liability—current
1,417.3
Instructions
(a) Identify which of the above liabilities are likely current and which are likely long term. Say if an item fits in neither category. Explain the reasoning for your selection.
(b)
Edmonds, Inc. reports the following liabilities (in thousands) on its January 31, 2010, balance sheet and notes to the financial statements.
Accounts payable
$4,263.9
Notes payable—long term
$6,746.7
Accrued pension liability
1,215.2
Operating leases
1,641.7
Accrued liabilities
1,258.1
Loans payable—long term
335.6
Bonds payable
1,961.2
Payroll related liabilities
558.1
Current portion of
1,992.2
Short term borrowings
2,563.6
long term debt
235.2
Unused operating line of credit
3,337.6
Income taxes payable
Warranty liability—current
1,417.3
Instructions
(a) Identify which of the above liabilities are likely current and which are likely long term. Say if an item fits in neither category. Explain the reasoning for your selection.
(b) Prepare the liabilities section of Edmonds’s balance sheet as at January 31, 2010.
McDonalds 2006 financial statements contain the following selected data (in millions).
Current assets
$ 3,625.3
Interest expense
$ 402.0
Total assets
29,023.8
Income taxes
1,293.4
Current liabilities
3,008.1
Net income
3,544.2
Total liabilities
13,565.5
Instructions
(a) Compute the following values and provide a brief interpretation of each.
(1) Working capital.
(2) Current ratio.
(3) Debt to total assets ratio.
(4) Times interest earned ratio.
(b) The notes to McDonald’s financial statements show that subsequent to 2006 the company will have future minimum lease payments under operating leases of $11,119.8 million. If these assets had been purchased with debt, assets and liabilities would rise by approximately $9,900 million. Recompute the debt to total assets ratio after adjusting for this. Discuss your result.
On January 1, 2010, the ledger of Glennon Company contained these liability accounts.
Accounts Payable
$42,500
Sales Taxes Payable
6,600
Unearned Service Revenue
19,000
During January the following selected transactions occurred.
1
Borrowed $15,000 in cash from Midland Bank on a 4 month, 8%, $15,000 note.
5
Sold merchandise for cash totaling $6,510, which includes 5% sales taxes.
12
Provided services for customers who had made advance payments of $10,000. (Credit Service Revenue.)
14
Paid state treasurer’s department for sales taxes collected in December 2009, $6,600.
20
Sold 500 units of a new product on credit at $48 per unit, plus 5% sales tax.
During January the company’s employees earned wages of $70,000. Withholdings related to these wages were $5,355 for Social Security (FICA), $5,000 for federal income tax, and $1,500 for state income tax. The company owed no money related to these earnings for federal or state unemployment tax. Assume that wages earned during January will be paid during February. No entry had been recorded for wages or payroll tax expense as of January 31.
Instructions
(a) Journalize the January transactions.
(b) Journalize the adjusting entries at January 31 for the outstanding note payable and for wages expense and payroll tax expense.
(c) Prepare the current liabilities section of the balance sheet at January 31, 2010. Assume no change in Accounts Payable.
McCullough Corporation sells rock climbing products and also operates an indoor climbing facility for climbing enthusiasts. During the last part of 2010, McCullough had the following transactions related to notes payable.
1
Issued a $12,000 note to Jernigan to purchase inventory. The 3 month note payable bears interest of 8% and is due December 1.
30
Recorded accrued interest for the Jernigan note.
1
Issued a $16,000, 9%, 4 month note to Lebo Bank to finance the purchase of a new climbing wall for advanced climbers. The note is due February 1.
31
Recorded accrued interest for the Jernigan note and the Lebo Bank note.
1
Issued a $25,000 note and paid $8,000 cash to purchase a vehicle to transport clients to nearby climbing sites as part of a new series of climbing classes. This note bears interest of 6% and matures in 12 months.
30
Recorded accrued interest for the Jernigan note, the Lebo Bank note, and the vehicle note.
1
Paid principal and interest on the Jernigan note.
31
Recorded accrued interest for the Lebo Bank note and the vehicle note.
Instructions
(a) Prepare journal entries for the transactions noted above.
(b) Post the above entries to the Notes Payable, Interest Payable, and Interest Expense accounts. (Use T accounts.)
(c) Show the balance sheet presentation of notes payable and interest payable at December 31.
(d) How much interest expense relating to notes payable did McCullough incur during the year?
The following section is taken from Pickeril balance sheet at December 31, 2009.
Current liabilities
Bond interest payable
$ 40,000
Long term liabilities
Bonds payable, 8%, due January 1, 2013
500,000
Interest is payable annually on January 1. The bonds are callable on any annual interest date.
Instructions
(a) Journalize the payment of the bond interest on January 1, 2010.
(b) Assume that on January 1, 2010, after paying interest, Pickeril calls bonds having a face value of $100,000. The call price is 104. Record the redemption of the bonds.
(c) Prepare the adjusting entry on December 31, 2010, to accrue the interest on the remaining bonds.
On October 1, 2009, Havenhill Corp. issued $700,000, 7%, 10 year bonds at face value. The bonds were dated October 1, 2009, and pay interest annually on October 1. Financial statements are prepared annually on December 31.
Instructions
(a) Prepare the journal entry to record the issuance of the bonds.
(b) Prepare the adjusting entry to record the accrual of interest on December 31, 2009.
(c) Show the balance sheet presentation of bonds payable and bond interest payable on December 31, 2009.
(d) Prepare the journal entry to record the payment of interest on October 1, 2010.
(e) Prepare the adjusting entry to record the accrual of interest on December 31, 2010.
(f ) Assume that on January 1, 2011, Havenhill pays the accrued bond interest and calls the bonds. The call price is 102. Record the payment of interest and redemption of the bonds.
The following information is taken from Kuehn Corp.’s balance sheet at December 31, 2009.
Current liabilities
Bond interest payable
$ 168,000
Long term liabilities
Bonds payable, 7%, due January 1, 2020
$2,400,000
Less: Discount on bonds payable
42,000
2,358,000
Interest is payable annually on January 1. The bonds are callable on any annual interest date. Kuehn uses straight line amortization for any bond premium or discount. From December 31, 2009, the bonds will be outstanding for an additional 10 years (120 months).
Instructions
(a) Journalize the payment of bond interest on January 1, 2010.
(b) Prepare the entry to amortize bond discount and to accrue the interest on December 31, 2010.
(c) Assume on January 1, 2011, after paying interest, that Kuehn Corp. calls bonds having a face value of $400,000. The call price is 103. Record the redemption of the bonds.
(d) Prepare the adjusting entry at December 31, 2011, to amortize bond discount and to accrue interest on the remaining bonds.
On January 1, 2010, Irik Corporation issued $1,800,000 face value, 7%, 10 year bonds at $1,679,219. This price resulted in an effective interest rate of 8% on the bonds. Irik uses the effective interest method to amortize bond premium or discount. The bonds pay annual interest January 1.
Instructions
(a) Prepare the journal entry to record the issuance of the bonds on January 1, 2010.
(b) Prepare an amortization table through December 31, 2012 (three interest periods) for this bond issue.
(c) Prepare the journal entry to record the accrual of interest and the amortization of the discount on December 31, 2010.
(d) Prepare the journal entry to record the payment of interest on January 1, 2011.
(e) Prepare the journal entry to record the accrual of interest and the amortization of the discount on December 31, 2011.
On January 1, 2010, Fair Company issued $3,000,000 face value, 8%, 10 year bonds at $3,441,605. This price resulted in a 6% effective interest rate on the bonds. Fair uses the effective interest method to amortize bond premium or discount. The bonds pay annual interest on each January 1.
Instructions
(a) Prepare the journal entries to record the following transactions.
(1) The issuance of the bonds on January 1, 2010.
(2) Accrual of interest and amortization of the premium on December 31, 2010.
(3) The payment of interest on January 1, 2011.
(4) Accrual of interest and amortization of the premium on December 31, 2011.
(b) Show the proper balance sheet presentation for the liability for bonds payable on the December 31, 2011, balance sheet.
(c) Provide the answers to the following questions in narrative form.
(1) What amount of interest expense is reported for 2011?
(2) Would the bond interest expense reported in 2011 be the same as, greater than, or less than the amount that would be reported if the straight line method of amortization were used?
Stacy Button has just approached a venture capitalist for financing for her new business venture, the development of a local ski hill. On July 1, 2009, Stacy was loaned $120,000 at an annual interest rate of 7%. The loan is repayable over 5 years in annual installments of $29,267, principal and interest, due each June 30. The first payment is due June 30, 2010. Stacy uses the effective interest method for amortizing debt. Her ski hill company’s year end will be June 30.
Instructions
(a) Prepare an amortization schedule for the 5 years, 2009–2014.
(b) Prepare all journal entries for Stacy Button for the first 2 fiscal years ended June 30, 2010, and June 30, 2011. (c) Show the balance sheet presentation of the note payable as of June 30, 2011.
On January 1, 2010, the ledger of Euler Company contained the following liability accounts.
Accounts Payable
$52,000
Sales Taxes Payable
8,500
Unearned Service Revenue
11,000
During January the following selected transactions occurred.
1
Borrowed $18,000 from TriCounty Bank on a 3 month, 7%, $18,000 note.
5
Sold merchandise for cash totaling $18,550, which includes 6% sales taxes.
12
Provided services for customers who had made advance payments of $8,000. (Credit Service Revenue.)
14
Paid state revenue department for sales taxes collected in December 2009 ($8,500).
20
Sold 500 units of a new product on credit at $50 per unit, plus 6% sales tax.
During January the company’s employees earned wages of $50,000. Withholdings related to these wages were $3,825 for Social Security (FICA), $3,800 for federal income tax, and $1,100 for state income tax. The company owed no money related to these earnings for federal or state unemployment tax. Assume that wages earned during January will be paid during February. No entry had been recorded for wages or payroll tax expense as of January 31.
Instructions
(a) Journalize the January transactions.
(b) Journalize the adjusting entries at January 31 for the outstanding notes payable and for wages expense and payroll tax expense.
(c) Prepare the current liabilities section of the balance sheet at January 31, 2010. Assume no change in accounts payable
Rockie Mountain Bikes markets mountain bike tours to clients vacationing in various locations in the mountains of Colorado. In preparation for the upcoming summer biking season, Rockie entered into the following transactions related to notes payable.
1
Purchased Puma bikes for use as rentals by issuing a $10,000, 3 month, 6% note payable that is due June 1.
31
Recorded accrued interest for the Puma note.
1
Issued a $30,000 9 month note for the purchase of mountain property on which to build bike trails. The note bears 8% interest and is due January 1.
30
Recorded accrued interest for the Puma note and the land note.
May
1
Issued a 4 month note to Paola National Bank for $15,000 at 6%. The funds will be used for working capital for the beginning of the season; the note is due September 1.
May
31
Recorded accrued interest for all three notes.
June
1
Paid principal and interest on the Puma note.
June
30
Recorded accrued interest for the land note and the Paola Bank note.
Instructions
(a) Prepare journal entries for the transactions noted above.
(b) Post the above entries to the Notes Payable, Interest Payable, and Interest Expense accounts. (Use T accounts.)
(c) Assuming that Rockie’s year end is June 30, show the balance sheet presentation of notes payable and interest payable at that date.
(d) How much interest expense relating to notes payable did Rockie incur during the year?
The following section is taken from Dorothy Corp.’s balance sheet at December 31, 2009.
Current liabilities
Bond interest payable
$ 96,000
Long term liabilities
Bonds payable, 8%, due January 1, 2014
1,200,000
Interest is payable annually on January 1. The bonds are callable on any annual interest date.
Instructions
(a) Journalize the payment of the bond interest on January 1, 2010.
(b) Assume that on January 1, 2010, after paying interest, Dorothy Corp. calls bonds having a face value of $300,000. The call price is 105. Record the redemption of the bonds.
(c) Prepare the adjusting entry on December 31, 2010, to accrue the interest on the remaining bonds.
On April 1, 2009, LRF Corp. issued $600,000, 7%, 5 year bonds at face value. The bonds were dated April 1, 2009, and pay interest annually on April 1. Financial statements are prepared annually on December 31.
Instructions
(a) Prepare the journal entry to record the issuance of the bonds.
(b) Prepare the adjusting entry to record the accrual of interest on December 31, 2009.
(c) Show the balance sheet presentation of bonds payable and bond interest payable on December 31, 2009.
(d) Prepare the journal entry to record the payment of interest on April 1, 2010.
(e) Prepare the adjusting entry to record the accrual of interest on December 31, 2010.
(f ) Assume that on January 1, 2011, LRF pays the accrued bond interest and calls the bonds. The call price is 102. Record the payment of interest and redemption of the bonds.
The following section is taken from Fanestill Oil Company’s balance sheet at December 31, 2009.
Current liabilities
Bond interest payable
$ 324,000
Long term liabilities
Bonds payable, 9% due January 1, 2020
$3,600,000
Add: Premium on bonds payable
400,000
4,000,000
Interest is payable annually on January 1. The bonds are callable on any annual interest date. Fanestill uses straight line amortization for any bond premium or discount. From December 31, 2009, the bonds will be outstanding for an additional 10 years (120 months).
Instructions
(a) Journalize the payment of bond interest on January 1, 2010.
(b) Prepare the entry to amortize bond premium and to accrue interest due on December 31, 2010.
(c) Assume on January 1, 2011, after paying interest, that Fanestill Company calls bonds having a face value of $1,800,000. The call price is 102. Record the redemption of the bonds.
(d) Prepare the adjusting entry at December 31, 2011, to amortize bond premium and to accrue interest on the remaining bonds.
On January 1, 2010, Jagard Company issued $4,000,000 face value, 10%, 15 year bonds at $3,455,131. This price resulted in an effective interest rate of 12% on the bonds. Jagard uses the effective interest method to amortize bond premium or discount.
The bonds pay annual interest January 1.
Instructions
(a) Prepare the journal entries to record the following transactions.
(1) The issuance of the bonds on January 1, 2010.
(2) The accrual of interest and the amortization of the discount on December 31, 2010.
(3) The payment of interest on January 1, 2011.
(4) The accrual of interest and the amortization of the discount on December 31, 2011.
(b) Show the proper balance sheet presentation for the liability for bonds payable on the December 31, 2011, balance sheet.
(c) Provide the answers to the following questions in narrative form.
(1) What amount of interest expense is reported for 2011?
(2) Would the bond interest expense reported in 2011 be the same as, greater than, or less than the amount that would be reported if the straight line method of amortization were used?
(3) Determine the total cost of borrowing over the life of the bond.
(4) Would the total bond interest expense be greater than, the same as, or less than the total interest expense that would be reported if the straight line method of amortization were used?
Keith Pryor has just approached a venture capitalist for financing for his sailing school. The venture capitalist is willing to loan Keith $90,000 at a high risk annual interest rate of 24%. The loan is payable over 3 years in monthly installments of $3,531.
Each payment includes principal and interest, calculated using the effective interest method for amortizing debt. Keith receives the loan on May 1, 2010, which is the first day of his fiscal year. Keith makes the first payment on May 31, 2010.
Instructions
(a) Prepare an amortization schedule for the period from May 1, 2010, to August 31, 2010. Round all calculations to the nearest dollar.
(b) Prepare all journal entries for Keith Pryor for the period beginning May 1, 2010, and ending July 31, 2010. Round all calculations to the nearest dollar.
Aber Corporation’s balance sheet at December 31, 2009, is presented below.
ABER CORPORATION Balance Sheet December 31, 2009
Cash
$30,500
Accounts payable
$13,750
Inventory
25,750
Bond interest payable
3,000
Prepaid insurance
5,600
Bonds payable
50,000
Equipment
38,000
Common stock
20,000
$99,850
Retained earnings
$13,100
$99,850
During 2010, the following transactions occurred.
1. Aber paid $3,000 interest on the bonds on January 1, 2010.
2. Aber purchased $241,100 of inventory on account.
3. Aber sold for $450,000 cash inventory which cost $250,000. Aber also collected $27,000 sales taxes.
4. Aber paid $230,000 on accounts payable.
5. Aber paid $3,000 interest on the bonds on July 1, 2010.
6. The prepaid insurance ($5,600) expired on July 31.
7. On August 1, Aber paid $10,200 for insurance coverage from August 1, 2010, through July 31, 2011.
8. Aber paid $17,000 sales taxes to the state.
9. Paid other operating expenses, $91,000.
10. Retired the bonds on December 31, 2010, by paying $48,000 plus $3,000 interest.
11. Issued $90,000 of 8% bonds on December 31, 2010, at 104. The bonds pay interest every June 30 and December 31.
Adjustment data:
1. Recorded the insurance expired from item 7.
2. The equipment was acquired on December 31, 2009, and will be depreciated on a straight line basis over 5 years with a $3,000 salvage value.
3. The income tax rate is 30%.
Instructions
(a) Prepare journal entries for the transactions listed above and adjusting entries.
(b) Prepare an adjusted trial balance at December 31, 2010.
(c) Prepare an income statement and a retained earnings statement for the year ending December 31, 2010, and a classified balance sheet as of December 31, 2010.
The May 8, 2008, edition of the Wall Street Journalcontains an article by Heather Won Tesoriero titled “Oil Firms Settle Claims in MTBE Leak Cases.
Instructions
Read the article and answer the following questions.
(a) In addition to paying $423 million in cash, the oil companies agreed to pay cleanup costs that arise in the next 30 years. What accounting issues arise for the oil companies from the promise to pay in the future?
(b) Discuss the accounting criteria that the oil companies must apply toward their promise to pay future costs.
(c) What accounting challenges do the companies face in trying to apply the accounting criteria to the promise to pay in the future? What challenges are faced by investors who are analyzing the oil companies?
(d) Exxon Mobil Corp. chose to not settle. Instead it will go to court to dispute the charges. Discuss the implications of this decision for Exxon Mobil’s accounting versus that of the companies that chose to settle the case.
Pat Corporation owns an 80 percent interest in Sam Corporation and a 70 percent interest in Ten Corporation. Ten owns a 10 percent interest in Sam. These investment interests were acquired at fair value equal to book value.
The net incomes of the affiliates for 2011 were as follows:
Pat
$240,000
Sam
$ 80,000
Ten
$ 40,000
On December 31, 2011, Pat’s inventory included $10,000 of unrealized profits on merchandise purchased from
Sam during 2011, and Sam’s land account reflected $15,000 unrealized profit on land purchased from Ten during
2011. These unrealized profits have not been eliminated from the net income amounts shown. Except for adjustments related to unrealized profits, the net income amounts were determined on a correct equity basis.
1. The separate incomes of Pat, Sam, and Ten for 2011 were:
a $240,000, $80,000, and $32,000, respectively
b $148,000, $80,000, and $32,000, respectively
c $148,000, $72,000, and $40,000, respectively
d $240,000, $72,000, and $40,000, respectively
2. The separate realized incomes of Pat, Sam, and Ten for 2011 were:
a $138,000, $80,000, and $25,000, respectively
b $138,000, $70,000, and $25,000, respectively
c $123,000, $80,000, and $17,000, respectively
d $148,000, $70,000, and $17,000, respectively
3. Controlling share of consolidated net income for Pat Corporation and Subsidiaries for 2011 was:
a $220,800
b $215,900
c $214,400
d $212,400
4. Noncontrolling interest share that should appear in the consolidated income statement for Pat Corporation and Subsidiaries for 2011 is:
Pet Corporation owns 90 percent of Sod Corporation’s common stock and Sod owns 15 percent of Pet, both acquired at fair value equal to book value. Separate incomes and dividends of the affiliates for 2011 are as follows:
Separate Incomes
Dividends
Pet Corporation
$100,000
$50,000
Sod Corporation
60,000
30,000
. If the treasury stock approach is used, Pet’s income and controlling share of consolidated net income for 2011 will be computed:
Pug Corporation acquired a 70 percent interest in Sat Corporation for $238,000 on January 2, 2010, when Sat’s equity consisted of $200,000 capital stock and $50,000 retained earnings. The excess is due to a patent amortized over a 10 year period, at $9,000 per year. Pug accounted for its investment in Sat during 2010 as follows:
Investment cost January 2, 2010
$238,000
Income from Sat [($40,000 $9,000) x 70%]
21,700
Dividends from Sat ($20,000 x 70%)
(14,000 )
Investment balance December 31, 2010
$245,700
On January 3, 2011, Sat acquired a 10 percent interest in Pug at a $60,000 fair value equal to book value. No intercompany profit transactions have occurred. Incomes and dividends for 2011 were as follows:
Pug
Sat
Separate income
$120,000
$50,000
Dividends
60,000
30,000
REQUIRED
1. Determine the balance of Pug’s Investment in Sat account on December 31, 2011, if the treasury stock approach is used for Sat’s investment in Pug.
2. Compute controlling and noncontrolling interest shares of consolidated net income if the conventional approach is used for Sat’s investment in Pug. Also determine the amount of Pug’s income from Sat and the balance in Pug’s Investment in Sat account at December 31, 2011.
Pin Corporation acquired a 90 percent interest in Sun Corporation for $360,000 cash on January 2, 2009, when Sun had capital stock of $200,000 and retained earnings of $150,000. Sun purchased its 10 percent interest in Pin in 2010 for $80,000. The excess of Pin’s investment fair value over book value acquired is due to goodwill.
Financial statements for the year ended December 31, 2013, are as follows (in thousands):
Pin
Sun
Combined Income and Retained Earnings Statement
for the Year Ended December 31
Sales
$400
$100
Investment income
27
—
Dividend income
—
10
Cost of goods sold
(200)
(50)
Expenses
(50 )
(30 )
Net income
177
30
Add: Beginning retained earnings
300
200
Deduct: Dividends
(100 )
(20 )
Retained earnings December 31
$377
$210
Balance Sheet at December 31
Other assets
$486
$420
Investment in Sun (90%)
414
—
Investment in Pin (10%)
—
80
Total assets
$900
$500
Liabilities
$123
$ 90
Capital stock
400
200
Retained earnings
377
210
Total equities
$900
$500
REQUIRED: Prepare a consolidation workpaper using the treasury stock approach.
Consolidation workpaper second year (conventional approach)
Par Corporation acquired an 80 percent interest in Sip Corporation for $180,000 cash on January 1, 2011, when Sip had capital stock of $50,000 and retained earnings of $150,000. The excess of fair value over book value acquired is due to a patent, which is being amortized over five years. Sip purchased its 20 percent interest in Par at book value on January 2, 2011, for $100,000.
Financial statements for the year ended December 31, 2012, are summarized as follows:
Par
Sip
Combined Income and Retained Earnings Statement
for the Year Ended December 31
Sales
$140,000
$100,000
Income from Sip
28,000
—
Dividend income
—
4,000
Gain on sale of land
—
3,000
Expenses
(80,000 )
(60,000 )
Net income
88,000
47,000
Add: Beginning retained earnings
405,710
180,000
Deduct: Dividends
(16,000 )
(20,000 )
Retained earnings December 31
$477,710
$207,000
Balance Sheet at December 31
Other assets
$448,000
$157,000
Investment in Sip (80%)
109,710
—
Investment in Par (20%)
—
100,000
Total assets
$557,710
$257,000
Capital stock
$ 80,000
$ 50,000
Retained earnings
477,710
207,000
Total equities
$557,710
$257,000
ADDITIONAL INFORMATION
1. Par’s separate earnings and dividends for 2012 were $60,000 and $20,000, respectively. Sip’s separate earnings and dividends in 2012 were $40,000 and $20,000, respectively.
2. Sip sold land to an outside interest for $7,000 on January 3, 2012, that it purchased from Par on January 3, 2011, for $4,000. The land had originally cost Par $2,000.
REQUIRED: Prepare consolidation workpaper entries and a consolidation workpaper for Par Corporation and Subsidiary at December 31, 2012, using the conventional approach for the mutual holding.
Computations and entries (parent stock mutually held)
Pan Corporation purchased an 80 percent interest in Set for $340,000 on January 1, 2011, when Set’s equity was $400,000. The excess of fair value over book value is due to goodwill.
At December 31, 2012, the balance of Pan’s Investment in Set account is $416,000, and the stockholders’ equity of the two corporations is as follows:
Pan
Set
Capital stock
$1,200,000
$300,000
Retained earnings
400,000
200,000
Total
$1,600,000
$500,000
On January 2, 2013, Set acquires a 10 percent interest in Pan for $160,000. Earnings and dividends for 2013 are:
Pan
Set
Separate earnings
$200,000
$80,000
Dividends
100,000
40,000
REQUIRED
1. Compute controlling and noncontrolling interest shares of consolidated net income for 2013 using the conventional approach.
2. Prepare journal entries to account for Pan’s investment in Set for 2013 under the equity method (conventional approach).
3. Prepare journal entries on Set’s books to account for its investment in Pan under the equity method (conventional approach).
4. Compute Pan’s and Set’s net incomes for 2013.
5. Determine the balances of Pan’s and Set’s investment accounts on December 31, 2013.
6. Determine the total stockholders’ equity of Pan and Set on December 31, 2013.
7. Compute the noncontrolling interest in Set on December 31, 2013.
8. Prepare the adjusting and eliminating entries needed to consolidate the financial statements of Pan and Set for the year ended December 31, 2013.
Sam Corporation has 100,000 outstanding shares of $10 par common stock and 5,000 outstanding shares of $100 par, cumulative, 10 percent preferred stock. Sam’s net income for the year is $300,000, and its stockholders’ equity at year end is as follows (in thousands):
10% cumulative preferred stock, $100 par
$ 500
Common stock, $10 par
1,000
Additional paid in capital
600
Retained earnings
400
Total Stockholders’ Equity
$2,500
Par Corporation owns 60 percent of the outstanding common stock of Sam, acquired at a fair value equal to book value several years ago. Compute Par’s investment income for the year and the balance of its Investment in Sam account at the end of the year.
Subsidiary preferred stock with dividends in arrears
The stockholders’ equity of Sir Corporation at December 31, 2011, was as follows (in thousands):
10% cumulative preferred stock, $100 par, callable at $105,
$2,000
20,000 shares issued and outstanding, with one year’s
dividends in arrears
Common stock, $10 par, 200,000 shares issued and outstanding
2,000
Additional paid in capital
4,000
Retained earnings
8,000
Total stockholders’ equity
$16,000
On January 1, 2010, Pod Corporation purchased 90 percent of Sir Corporation’s common stock at $90 per share. Sir’s assets and liabilities were recorded at their fair values when Pod acquired its 90 percent interest. Any fair value/ book value differential is assigned to goodwill and is not amortized. During 2012, Sir reported net income of $2,400,000 and paid dividends of $1,200,000.
REQUIRED: Calculate the following:
1. The fair value/book value differential from Pod’s investment in Sir.
2. Pod’s income from Sir for 2012.
3. The balance of Pod’s investment in Sir at December 31, 2012.
4. Total noncontrolling interest in Sir on December 31, 2012.
Par Corporation purchased 80 percent of Sol’s common stock on January 2, 2011, for $1,536,000. During 2011, Sol reported a $100,000 net loss and paid no dividends. During 2012, Sol reported $500,000 net income and declared dividends of $344,000. Any excess fair value is allocated to goodwill.
REQUIRED
1. Compute the fair value/book value differential from Par’s investment in Sol.
2. Determine Par’s income (loss) from Sol for 2011.
3. Determine Par’s income (loss) from Sol for 2012.
4. Compute the balance of Par’s Investment in Sol account on December 31, 2012.
Investment cost and net income—subsidiary preferred stock
Pen Corporation owns 80 percent of San Corporation’s common stock, having acquired the interest at a fair value equal to book value on December 31, 2011. During 2012, Pen’s separate income is $3,000,000 and San’s net income is $500,000. Pen and San declare dividends in 2012 of $1,000,000 and $300,000, respectively.
December 31, 2011
December 31, 2012
12% cumulative preferred stock, $100 par,
callable at $105 per share
$1,000
$1,000
Common stock, $10 par
2,000
2,000
Other paid in capital
300
300
Retained earnings
700
900
Total stockholders’ equity
$4,000
$4,200
REQUIRED
1. Determine the cost of Pen’s investment in San on December 31, 2011, if San has one year’s preferred dividends in arrears on that date.
2. Calculate Pen’s net income and noncontrolling interest share for 2012.
3. Calculate the underlying book value of Pen’s investment in San on December 31, 2012.
Journal entries—parent owns both common and preferred stock of subsidiary
The stockholders’ equity of Son Corporation on December 31, 2011, was as follows (in thousands):
15% preferred stock, $100 par, cumulative, nonparticipating, with
one year’s dividends in arrears
$1,000
Common stock, $10 par
2,000
Other paid in capital
200
Retained earnings
300
Total stockholders’ equity
$3,500
Pam Corporation acquired 50 percent of Son’s preferred stock for $600,000 and 80 percent of its common stock for $2,000,000 on January 1, 2012. Son reported net income of $400,000 and paid dividends of $300,000 in 2012.
REQUIRED
1. Prepare the journal entries to record Pam’s 50% investment in Son preferred stock.
2. Calculate the excess fair value/book value differential from Pam’s 80% investment in Son common. Assume the differential is goodwill.
3. Compute Pam’s income from Son—preferred for 2012.
4. Compute Pam’s income from Son—common for 2012 (assume a 10 year amortization period for the fair value/book value differential).
5. Calculate the noncontrolling interest in Son that will appear in the consolidated balance sheet of Pam Corporation and Subsidiary on December 31, 2012.
The TMA covers the financial accounting concepts and practices in the businesses. It is marked out of 100 and is worth 20% of the overall assessment component. It is intended to assess students’ understanding of some of the learning points within Units 1 to 4. This TMA requires you to apply the course concepts.
The TMA is intended to:
? Increase the students’ knowledge about the reality of the accounting as a profession.
? Assess students’ understanding of key learning points within Units 1 to 4.
? Develop the ability to understand and interact with the nature of the financial statements in reality.
? Develop students’ communication skills, such as memo writing, essay writing, analysis and presentation of material.
? Develop basic ICT skills such as using the internet.
The TMA:
The TMA requires you to:
1 Review various study Units (from 1 to 4) of ‘Financial Accounting’ within it.
2 Conduct a simple information search using the internet.
3 Present your findings in not more than 1,400 words. The word count excludes headings, references, title page, and diagrams.
4 You should use a Microsoft Office Word and Times New Roman Font of 14 points.
5 You should read and follow the instructions below carefully. Each part of the process will carry marks for the assignment.
Criteria for Grade Distribution:
Criteria Content Using E library & Referencing Structure and Presentation of ideas Total marks
Financial Reporting on the Internet: Marks and Spencer Group plc
Marks 100 (5) (5) 100
The TMA Questions
Financial Reporting on the Internet
(Case study: Marks and Spencer Group plc)
The internet is a good place to get information that is useful to you in your study of accounting. For example, you can find information about current events, professional accounting organizations, and specific companies that may support your study.
Marks & Spencer was formed in 1884 when Michael Marks, a Polish refugee opened a market stall in Leeds, with the slogan ‘don’t ask the price, it’s a penny’. In 1894 Marks went into partnership with Thomas Spencer, a former cashier from the wholesale company, Dewhirst. In 1904 Marks & Spencer opened their first shop in a covered arcade in Leeds.
Over the last 129 years M&S has grown from a single market stall to become an international multi channel retailer. It now operates in over 50 territories worldwide and employs almost 82,000 people. Remaining true to its founding values of Quality, Value, Service, Innovation and Trust, M&S group works hard to ensure its offer continues to be relevant to its customers. They mentioned that: “Through diversifying our store locations, channels and product ranges we are reducing our dependence on the UK and broadening our international focus.”
Access the Sports Direct home web page at: www.marksandspencer.com/thecompany From M&S’s home page and then download the “Annual Report” for the year 2013 on Form PDF.
Note: the annual report of M&S plc is available at:
Use the annual report of 2013 to answer the following questions:
1 Explain briefly why each of the following groups might be interested in the financial statements of M&S Group Plc:
a Marc Bolland as Chief Executive Officer (CEO).
b Trade creditors.
c PricewaterhouseCoopers LLP (PwC).
[Marks (Words): 15 (200)]
2 As you learned in Unit 1, Session 3, the major environmental factors impacting on an organization can be grouped under four headings: Political/Legal, Economic, Social/Demographic and Technological (PEST analysis). Giving examples from the annual report, discuss the impact of each of the elements in the PEST analysis on M&S Group Plc.
[Marks (Words): 16 (300)]
3 Explain why the M&S Group prepares consolidated financial statements.
[Marks (Words): 6 (50)]
4 Explain why the going concern assumption is important in understanding M&S’s financial statements. Support your answer with evidence from M&S’s annual report
[Marks (Words): 8 (150)]
5 As you learned in Unit 1, Session 4, the concept of materiality is one of the most basic generally accepted accounting practices (GAAP).
Required:
a Explain the role that the concept of materiality has in making M&S’ financial statements useful to most decision makers. Give an example.
b Explain why £30,000 is a material or immaterial amount for the Group.
[Marks (Words): 9 (100)]
6 M&S Group mentioned in its annual report about “Property, plant and equipment”, p. 83 that:
The Group’s policy is to state property, plant and equipment at cost less accumulated depreciation and any recognized impairment loss. Property is not revalued for accounting purposes. Assets in the course of construction are held at cost less any recognised impairment loss. Cost includes professional fees and, for qualifying assets, borrowing costs.
Depreciation is provided to write off the cost of tangible noncurrent assets (including investment properties), less estimated residual values, by equal annual instalments as follows:
• freehold land – not depreciated;
• freehold and leasehold buildings with a remaining lease term over 50 years –depreciated to their residual value over their estimated remaining economic lives;
• leasehold buildings with a remaining lease term of less than 50 years – depreciated over the remaining period of the lease; and
• fixtures, fittings and equipment – 3 to 25 years according to the estimated life of the asset.
Required
a State where in M&S might the responsible for estimating the useful lives of property, plant and equipment lie. Support your answer with evidence from M&S’ annual report.
b State the estimated depreciation rates of property, plant and equipment.
c Explain why M&S uses the straight line method for depreciating assets.
[Marks (Words): 4 marks for each point (200)]
7 The financial condition and operating results require M&S’s management to make judgments, assumptions and estimates that affect the amounts reported in its consolidated financial statements and accompanying notes.
Required:
a Discuss how judgments and estimates play a major role in preparing M&S’ consolidated financial statements. Give examples from the accompanying notes.
b From M&S’s annual report, identify four situations in which accountants rely on their professional judgment rather than on written rules.
[Marks (Words): 12 (150)]
8 Assume that Marc Bolland, Chief Executive Officer (CEO), has mentioned:
“We own freehold land that cost us £12.5m but today is worth at least £30m. Let’s show it at £30m in our statement of financial position, and that will increase our total asset and our shareholders’ equity by £17.5m.”
Required:
Critically discuss this quotation. Your evaluation should consider ethical and legal issues as well as accounting issues.
[Marks (Words): 12 (150)]
9 From the income statement, p. 78, M&S has earned £458.0m net profit. Explain how this net profit effects the amount of dividend distributed to M&S’ shareholders. Support your answer by suitable figures from M&S’ 2013 annual report.
[Marks (Words): 10 (100)]
[Total Marks (Words) = 100 (1,400)]
In your answer, you should explain each point or inquire separately. Use the following headings (below) to make up the different sections of your work:
Cover The PT3 form (available on LMS)
Contents Title and contents page
TMA Financial Reporting on the Internet (Case study: Marks and Spencer Group plc)
References Recorded according to the Harvard style Available on LMS
(Bond Theory: Price, Presentation, and Retirement) On March 1, 2011, Sealy Company sold its 5 year, $1,000 face value, 9% bonds dated March 1, 2011, at an effective annual interest rate (yield) of 11%. Interest is payable semiannually, and the first interest payment date is September 1, 2011. Sealy uses the effective interest method of amortization. Bond issue costs were incurred in preparing and selling the bond issue. The bonds can be called by Sealy at 101 at any time on or after March 1, 2012.
Instructions
(a) (1) How would the selling price of the bond be determined?
(2) Specify how all items related to the bonds would be presented in a balance sheet prepared immediately after the bond issue was sold.
(b) What items related to the bond issue would be included in Sealy’s 2011 income statement, and how would each be determined?
(c) Would the amount of bond discount amortization using the effective interest method of amortization be lower in the second or third year of the life of the bond issue? Why?
(d) Assuming that the bonds were called in and retired on March 1, 2012, how should Sealy report the retirement of the bonds on the 2012 income statement?
Mack and Myer, LLP, a law firm, is considering the replacement of its old accounting system with new software that should save $10,000 per year in net cash operating costs. The old system has zero disposal value, but it could be used for the next 5 years. The estimated useful life of the new software is 5 years with zero salvage value, and it will cost $40,000. The required rate of return is 14%.
1. What is the payback period?
2. Compute the NPV To compute the Net Present Value (NPV) identify the amount & timing of cash inflow & outflow
3. Management is unsure about the useful life. What would be the NPV if the useful life were (a) 3 years instead of 5 or (b) 10 years instead of 5?
4. Suppose the life will be 5 years, but the savings will be $8000 per year instead of $10,000. What would be the NPV?
5. Suppose the annual savings will be $9,000 for 4 years. What would be the NPV?
Can you help me with my managerial accounting assignment? I need overnight delivery.
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200000 2964226 398400 308000 150000 4020626 2500000 500000 2000000 6020626 1370626 50000 1420626 0 1420626 200000 3400000 1000000 4600000 6020626 3984000 1826000 2158000 1035840 1122160 381534 740626 0.15 0.35 1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 5 6 7 8 9 10 11 12 13 Balance Sheet for the year ending 12/31/X0 Assets Cash Marketable Securities Accounts Receivable Inventory Other Assets Current Assets Equipment Accumulated Depreciation Fixed Assets Total Assets Liabilities and Equity Accounts Payable Other Current Liabilities Current Liabilities Common Stock Paid in Capital Retained Earnings Total Equity Total Liabilities and Equity Project Boylan Sales Cost of Goods Sold Operating expenses Taxes Net Income Gross Profit Net income before taxes Taxable Income ($) Tax Rate[21] 0 to 50,000 50,000 to 75,000 $7,500 + 25% Of the amount over 50,000 75,000 to 100,000 $13,750 + 34% Of the amount over 75,000 100,000 to 335,000 $22,250 + 39% Of the amount over 100,000 335,000 to 10,000,000 $113,900 + 34% Of the amount over 335,000 10,000,000 to 15,000,000 $3,400,000 + 35% Of the amount over 10,000,000 15,000,000 to 18,333,333 $5,150,000 + 38% Of the amount over 15,000,000 18,333,333 and up Check list for the project: Does the balance sheet balance? Is retained earnings correct? (Beg Bal + NI – Div = Ending Bal) Did you include an amortization table for the loan? Is interest expense correct on the income statement and the mortgage liability correctly stated on the balance sheet? Have you separated current assets and current liabilities? Classified balance sheet? Is there a table showing your tax expense calculation? Is sales revenue correct? Is there a schedule for CGS and ending inventory balances? Is CGS on the income statement and inventory on the balance sheet correct? Are assumptions reasonable? Is interest revenue reasonable? Did you calculate ratios for all…
Accounting 112 Exam #3 Chapter 14 Name 1.// CT (lc (..7“44 1. On March 1, 2015, Vinnie Services issued a 5% long term notes payable for $15,000. It is payable over a 3 year term in $5,000 principal installments on March 1 of each year, be innin March 1 2016. Prepare the journal entry.
DATE . EXPLANATION . DEBIT CREDIT MIR 111 COS h I5, bOb neffilet DJ 1 k ii a 15, OCCi
2. On December 1, 2013, Fine Products borrowed $80,000 on a 4%, 8 year note with annual installment payments of $10,000 plus interest due on December 1 of each succeeding year. On December 1, the principal amount was initially recorded as long term notes payable. What amount of the note payable will be shown as current portion of Long Term Note Payable on the balance sheet as of December 31, 2013? A) $10,000 B) $13,200 C) $3,200 D) $20,000
3. Trek Company signed a 9%, 10 year note for $150,000. The company paid $1,900 as the installment for the first month. What portion of the first monthly payment is interest expense? A) $4,800 B) $16,000 C) $14,400 D) $1,125
4. Trek Company signed a 9%, 10 year note for $150,000. The company paid $1,900 as the installment for the first month. ter the first payment, what is the updated principal balance?
• A)
147,625 B) $159,430 C) $149,225 D) $159,100
5. In order to expand business, the management of Vereos Inc. decided to issue long term notes payable for 550,000. The instrument carries interest at the rate of 12% with 10 equal yearly installments, beginning in one year. What will be the journal e
itry at the inception? DATE EXPLANATION DEBIT CREDIT
6. ) In order to expand business, the management of Vereos Inc. decided to issue Long term notes payable for $50,000. The note will be paid over ten years with payments of $5,000 plus 12% interest. Provide the journal entry needed after 1 year for
he first installment payment. DATE EXPLANATION DEBIT CREDIT
7. on January 1, 2015, Bratios Company purchased equipment and signed a 6 year mortgage note for $80,000 at 15%. The note will be paid in equal annual installments of $21,139. beginning January 1, 2016. On January 1, 2016, the journal entry to record the first installment payment will include a:
with a Word document explaining how you prepared it.
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JIM Cash Flows JIM Income Stmt JIM Bal Sheet JIM Cost of Goods Manuf Cost of Goods Manufactured Consolidated “000” Omitted Activity Manufacturing cost for the period: Raw material Purchases of Raw Materials Raw materials available Ending balance Total raw materials used Direct Labor Factory Variable overhead Indirect labor Supplies Fixed overhead Supervisor’s salary Utilities Factory property taxes Factory assets depreciation Factory insurance Total current period manufacturing costs Total cost to account for Cost of goods manufactured Cost of Goods Sold Consolidated Cost of goods available for sale Cost of goods sold Income Statement Consolidated (dollars in thousands) INCOME Sales Gross margin Interest on checking account TOTAL INCOME OPERATING EXPENSES Compensation of Officers Salaries FICA FUTA and SUTA Advertising expenses State income taxes Administrative expenses Bad debt expense Headquarters’ property tax Charitable contributions TOTAL OPERATING EXPENSES Net operating income Interest Expense NET INCOME BEFORE TAXES Federal tax expense NET INCOME Administrative expenses include: Repairs and maintenance Rents Depreciation Pension, profit sharing Employee Benefit Programs Balance Sheet Consolidated ASSETS Current assets: Cash Accounts receivable, net Inventory Prepaid expenses Total current assets Property and equipment: Land Plant and equipment Total property and equipment TOTAL ASSETS LIABILITIES & STOCKHOLDERS’ EQUITY Current liabilities: Accounts payable Notes payable, short term Total current liabilities Long term liabilities: Bonds payable, 8% Total liabilities Stock holder’ equity: Common stock Retained earnings Total stockholders’ equity TOTAL LIABILITIES & STOCKHOLDERS’ EQUITY Statement of Cash Flows Consolidated Cash sales Cash…
Hilman University sells 3,800 season basketball tickets at $80 each for its 10 game home schedule. Give the entry to record (a) the sale of the season tickets and (b) the revenue earned by playing the first home game.
5.
Burden Inc. is considering these two alternatives to finance its construction of a new $2 million plant:
(a) Issuance of 200,000 shares of common stock at the market price of $10 per share.
(b) Issuance of $2 million, 6% bonds at face value.
Complete the table and indicate which alternative is preferable.
Additional stock issued by subsidiary directly to parent
The stockholders’ equities of Pal Corporation and its 80 percent owned subsidiary, Sow Corporation, on December 31, 2011, are as follows (in thousands):
Pal
Sow
Common stock, $10 par
$10,000
$6,000
Retained earnings
4,000
3,000
Total Stockholders’ Equity
$14,000
$9,000
Pal’s Investment in Sow account balance on December 31, 2011, is equal to its underlying book value. On January
2, 2012, Sow issued 60,000 previously unissued common shares directly to Pal at $25 per share.
REQUIRED
1. Calculate the balance of Pal’s Investment in Sow account on January 2, 2012, after the new investment is recorded.
2. Determine the goodwill, if any, from Pal’s purchase of the 60,000 new shares.
Additional stock issued by subsidiary under different assumptions
The stockholders’ equities of Pod Corporation and its 80 percent owned subsidiary, Sod Corporation, on December 31, 2011, appear as follows (in thousands):
Pod
Sod
Common stock, $10 par
$5,000
$2,200
Retained earnings
2,000
1,000
Total
$7,000
$3,200
Pod’s Investment in Sod account on this date is equal to its underlying book value. On January 1, 2012, Sod issues 30,000 previously unissued common shares for $20 per share.
REQUIRED
1. If Pod purchases the 30,000 shares directly from Sod, what is Pod’s percentage ownership in Sod after the new shares are acquired?
2. If Sod sells the 30,000 previously unissued common shares to the public, what is Pod’s percentage ownership in Sod after the new issuance?
3. If Sod sells the 30,000 shares to the public, prepare the journal entry on Pod’s books to account for the effect of the issuance on its Investment in Sod account assuming that no gain or loss is recognized.
Subsidiary issues additional stock under different assumptions
Pam Corporation owns two thirds (600,000 shares) of the outstanding $1 par common stock of Sat Company on January 1, 2011. In order to raise cash to finance an expansion program, Sat issues an additional 100,000 shares of its common stock for $5 per share on January 3, 2011. Sat’s stockholders’ equity before and after the new stock issuance is as follows (in thousands):
Before Issuance
After Issuance
Common stock, $1 par
$ 900
$1,000
Additional paid in capital
600
1,000
Retained earnings
600
600
Total stockholders’ equity
$2,100
$2,600
REQUIRED
1. Assume that Pam purchases all 100,000 shares of common stock directly from Sat.
a. What is Pam’s percentage ownership interest in Sat after the purchase?
b. Calculate goodwill from Pam’s acquisition of the 100,000 shares of Sat.
2. Assume that the 100,000 shares of common stock are sold to Van Company, one of Sat’s noncontrolling stockholders.
a. What is Pam’s percentage ownership interest after the new shares are sold to Van?
b. Calculate the change in underlying book value of Pam’s investment after the sale.
c. Prepare the journal entry on Pam’s books to recognize the increase or decrease in underlying book value computed in b above assuming that gain or loss is not recognized.
The stockholder’s equity of Sum Corporation at December 31, 2010, 2011, and 2012, is as follows (in thousands):
December 31,
2010
2011
2012
Capital stock, $10 par
$200
$200
$200
Retained earnings
80
160
220
$280
$360
$420
Sum reported income of $80,000 in 2011 and paid no dividends. In 2012, Sum reported net income of $80,000 and declared and paid dividends of $10,000 on May 1 and $10,000 on November 1. Income was earned evenly in both years. Pin Corporation acquired 4,000 shares of Sum common stock on April 1, 2011, for $64,000 cash and another 8,000 shares on July 1, 2012, for $164,000. Any fair value/book value differential is goodwill.
REQUIRED: Determine the following:
1. Pin’s income from Sum for 2011 and 2012
2. Noncontrolling interest at December 31, 2012
3. Preacquisition income in 2012
4. Balance of the Investment in Sum account at December 31, 2012
Pit Corporation acquired a 90 percent interest in Sad on July 1, 2012, for $675,000. The stockholders’ equity of Sad at December 31, 2011, was as follows (in thousands):
Capital stock
$500
Retained earnings
200
Total
$700
During 2012 and 2013, Sad reported income and declared dividends as follows:
2012
2013
Net income
$100,000
$80,000
Dividends (December)
50,000
30,000
On July 1, 2013, Pit sold a 10 percent interest (or one ninth of its investment) in Sad for $85,000.
REQUIRED
1. Determine Pit’s investment income for 2012 and 2013, and its investment balance on December 31, 2012 and 2013.
2. Determine noncontrolling interest share for 2012 and 2013, and the total of noncontrolling interest on December 31, 2012 and 2013.
Computations and entries (subsidiary issues additional shares to outside entities)
Pat Company paid $1,800,000 for 90,000 shares of Sir Company’s 100,000 outstanding shares on January 1, 2011, when Sir’s equity consisted of $1,000,000 of $10 par common stock and $500,000 retained earnings. The excess fair value over book value was goodwill. On January 2, 2013, Sir sold an additional 20,000 shares to the public for $600,000, and its equity before and after issuance of the additional 20,000 shares was as follows (in thousands):
January 1, 2013 (Before Issuance)
January 2, 2013 (After Issuance)
$10 par common stock
$1,000
$1,200
Additional paid in capital
—
400
Retained earnings
800
800
Total stockholders’ equity
$1,800
$2,400
REQUIRED
1. Determine Pat’s Investment in Sir account balance on January 1, 2013.
2. Prepare the entry on Pat’s books to account for its decreased ownership interest if gain or loss is not recognized.
Mid year acquisition and purchase of additional shares
A summary of changes in the stockholders’ equity of Sin Corporation from January 1, 2011, to December
31, 2012, appears as follows (in thousands):
Capital Stock $10 Par
Additional Paid in Capital
Retained Earnings
Total Equity
Balance January 1, 2011
$500
—
$ 50
$550
Dividends, December 2011
—
—
(50)
(50)
Income, 2011
—
—
100
100
Balance December 31, 2011
$500
—
$100
$600
Sale of stock January 1, 2012
100
$ 62
—
162
Dividends, December 2012
—
—
(60)
(60)
Income, 2012
—
—
150
150
Balance December 31, 2012
$600
$ 62
$190
$852
Par Corporation purchases 40,000 shares of Sin’s outstanding stock on July 1, 2011, in the open market for $620,000 and an additional 10,000 shares directly from Sin for $162,000 on January 1, 2012. Any excess of investment fair value over book value is due to goodwill.
REQUIRED
1. Determine the balance of Par’s Investment in Sin account on December 31, 2011.
2. Compute Par’s investment income from Sin for 2012.
3. Determine the balance of Par’s Investment in Sin account on December 31, 2012.
Computations and entries (subsidiary issues additional shares to public)
Pin Corporation purchased 960,000 shares of Sit Corporation’s common stock (an 80 percent interest) for $21,200,000 on January 1, 2011. The $2,000,000 excess of investment fair value over book value acquired was goodwill.
On January 1, 2013, Sit sold 400,000 previously unissued shares of common stock to the public for $30 per share. Sit’s stockholders’ equity on January 1, 2011, when Pin acquired its interest, and on January
1, 2013, immediately before and after the issuance of additional shares, was as follows (in thousands):
January 1, 2011
January 1, 2013 Before Issuance
January 1, 2013 After Issuance
Common stock, $10 par
$12,000
$12,000
$16,000
Other paid in capital
4,000
4,000
12,000
Retained earnings
8,000
10,000
10,000
Total
$24,000
$26,000
$38,000
REQUIRED
1. Calculate the balance of Pin’s Investment in Sit account on January 1, 2013, before the additional stock issuance.
2. Determine Pin’s percentage interest in Sit on January 1, 2013, immediately after the additional stock issuance.
3. Prepare a journal entry on Pin’s books to adjust for the additional share issuance on January 1, 2013, if gain or loss is not recognized.
Pan Corporation owns 300,000 of 360,000 outstanding shares of Son Corporation, and its $8,700,000 Investment in Son account balance on December 31, 2011, is equal to the underlying equity interest in Son. Son’s stockholders’ equity at December 31, 2011, is as follows (in thousands):
Common stock, $10 par, 500,000 shares authorized,
400,000 shares issued, of which 40,000 are treasury shares
$ 4,000
Additional paid in capital
2,500
Retained earnings
5,500
12,000
Less: Treasury shares at cost
1,560
Total stockholder’s equity
$10,440
Because of a cash shortage, Pan decided to reduce its ownership interest in Son from a 5/6 interest to a 3/4 interest and is considering the following options:
Option 1. Sell 30,000 of the 300,000 shares held in Son.
Option 2. Instruct Son to issue 40,000 shares of previously unissued stock.
Option 3. Instruct Son to reissue the 40,000 shares of treasury stock.
Assume that the shares can be sold at the current market price of $50 per share under each of the three options and that any tax consequences can be ignored. Pan’s stockholders’ equity at December 31, 2011, consists of $10,000,000 par value of common stock, $3,000,000 additional paid in capital, and $7,000,000 retained earnings.
REQUIRED: Compare the consolidated stockholders’ equity on January 1, 2012, under each of the three options.
Pal Company purchased 9,000 shares of Sal Corporation’s $50 par common stock at $90 per share on January 1, 2011, when Sal had capital stock of $500,000 and retained earnings of $300,000. During 2011, Sal Corporation had net income of $50,000 but declared no dividends.
On January 1, 2012, Sal Corporation sold an additional 5,000 shares of stock at $100 per share. Sal’s net income for 2012 was $70,000, and no dividends were declared.
REQUIRED: Determine each of the following:
1. The balance of Pal Company’s Investment in Sal account on December 31, 2011
2. The goodwill that should appear in the consolidated balance sheet at December 31, 2012, assuming that Pal Company purchased the 5,000 shares issued on January 1, 2012
3. Additional paid in capital from consolidation at December 31, 2012, assuming that Sal sold the 5,000 shares issued on January 1, 2012, to outside entities
4. Noncontrolling interest at December 31, 2012, assuming that Sal sold the 5,000 shares issued on January 1, 2012, to outsiders
Consolidated income statement (mid year purchase of additional interest)
Comparative separate company and consolidated balance sheets for Pod Corporation and its 70 percent owned subsidiary, Saw Corporation, at year end 2011 were as follows (in thousands):
Pod
Saw
Consolidated
Cash
$ 100
$ 70
$ 170
Inventories
800
100
900
Other current assets
500
130
630
Plant assets—net
3,500
800
4,300
Investment in Saw
600
—
—
Goodwill
—
—
40
Total assets
$5,500
$1,100
$6,040
Current liabilities
$ 500
$ 300
$ 800
Capital stock, $10 par
3,000
500
3,000
Other paid in capital
1,000
100
1,000
Retained earnings
1,000
200
1,000
Noncontrolling interest
—
—
240
Total equities
$5,500
$1,100
$6,040
Saw’s net income for 2012 was $150,000, and its dividends for the year were $80,000 ($40,000 on March 1, and $40,000 on September 1). On April 1, 2012, Pod increased its interest in Saw to 80 percent by purchasing 5,000 shares in the market at $19 per share.
Separate incomes of Pod and Saw for 2012 are computed as follows:
Pod
Saw
Sales
$2,000
$1,200
Cost of sales
(1,200 )
(700 )
Gross profit
800
500
Depreciation expense
(400)
(300)
Other expenses
(100 )
(50 )
Separate incomes
$ 300
$ 150
REQUIRED
1. Prepare a consolidated income statement for the year ended December 31, 2012.
2. Prepare a schedule to show how Saw’s net income and dividends for 2012 are allocated among noncontrolling interests, controlling interests, and other interests.
Workpaper (mid year acquisition of 80% interest, downstream inventory sales)
Pop Corporation acquired an 80 percent interest in Sat Corporation on October 1, 2011, for $82,400, equal to 80 percent of the underlying equity of Sat on that date plus $16,000 goodwill (total goodwill is $20,000). Financial statements for Pop and Sat Corporations for 2011 are as follows (in thousands):
Pop
Sat
Combined Income and Retained Earnings Statement
for the Year Ended December 31
Sales
$112
$ 50
Income from Sat
3.8
—
Cost of sales
(60)
(20)
Operating expenses
(25.1 )
(6 )
Net income
30.7
24
Retained earnings January 1
30
20
Dividends
(20)
(10 )
Retained earnings December 31
$ 40.7
$ 34
Balance Sheet at December 31
Cash
$ 5.1
$ 7
Accounts receivable
10.4
17
Note receivable
5
10
Inventories
30
16
Plant assets—net
88
60
Investment in Sat
82.2
—
Total assets
$220.7
$110
Accounts payable
$ 15
$ 16
Notes payable
25
10
Capital stock
140
50
Retained earnings
40.7
34
Total equities
$220.7
$110
ADDITIONAL INFORMATION
1. In November 2011, Pop sold inventory items to Sat for $12,000 at a gross profit of $3,000. One third of these items remained in Sat’s inventory at December 31, 2011, and $6,000 remained unpaid.
2. Sat’s dividends were declared in equal amounts on March 15 and November 15, and its income was earned in proportionate amounts throughout each quarter of the year.
3. Pop applies the equity method such that its net income is equal to the controlling share of consolidated net income.
REQUIRED: Prepare a workpaper to consolidate the financial statements of Pop Corporation and Subsidiary for the year ended December 31, 2011.
Workpaper (noncontrolling interest, preacquisition income, downstream sale of equipment, upstream sale of land, subsidiary holds parent’s bonds)
Pal Corporation paid $175,000 for a 70 percent interest in Sid Corporation’s outstanding stock on April 1, 2011. Sid’s stockholders’ equity on January 1, 2011, consisted of $200,000 capital stock and $50,000 retained earnings.
Accounts and balances at and for the year ended December 31, 2011, follow (in thousands):
Pal
Sid
Combined Income and Retained Earnings Statement
for the Year Ended December 31
Sales
$287.1
$150
Income from Sid
12.3
—
Gain
12
2
Interest income
—
5.85
Expenses (includes cost of goods sold)
(200)
(117.85)
Interest expense
(11.4 )
—
Net income
100
40
Add: Beginning retained earnings
250
50
Less: Dividends
(50)
(20)
Retained earnings December 31
$300
$ 70
Balance Sheet at December 31
Cash
$ 17
$ 4
Interest receivable
—
6
Inventories
140
60
Other current assets
110
20
Plant assets—net
502.7
107.3
Investment in Sid common
180.3
—
Investment in Pal bonds
—
102.7
Total assets
$950
$300
Interest payable
$ 6
$ —
Other current liabilities
38.6
30
12% bonds payable
105.4
—
Common stock
500
200
Retained earnings
300
70
Total equities
$950
$300
ADDITIONAL INFORMATION
1. Sid Corporation paid $102,850 for all of Pal’s outstanding bonds on July 1, 2011. These bonds were issued on January 1, 2011, bear interest at 12 percent, have interest payment dates of July 1 and January 1, and mature 10 years from the date of issue. The $6,000 premium on the issue is being amortized under the straight line method.
2. Other current liabilities of Sid Corporation on December 31, 2011, include $10,000 dividends declared on December 15 and unpaid at year end. Sid also declared $10,000 dividends on March 15, 2011.
3. Pal Corporation sold equipment to Sid on July 1, 2011, for $30,000. This equipment was purchased by Pal on July 1, 2008, for $36,000 and is being depreciated over a six year period using the straight line method (no salvage value).
4. Sid sold land that cost $8,000 to Pal for $10,000 on October 15, 2011. Pal still owns the land.
5. Pal uses the equity method for its 70 percent interest in Sid.
REQUIRED: Prepare a consolidation workpaper for the year ended December 31, 2011.
Workpaper (mid year purchase of 10% interest, downstream sales)
Pam Corporation acquired a 70 percent interest in Sam Corporation on January 1, 2011, for $420,000 cash, when Sam’s equity of Sam consisted of $300,000 capital stock and $200,000 retained earnings.
On July 1, 2012, Pam acquired an additional 10 percent interest in Sam for $67,500, to bring its interest in Sam to 80 percent. The financial statements of Pam and Sam Corporations at and for the year ended December 31, 2012, are as follows (in thousands):
Pam
Sam
Combined Income and Retained Earnings Statement
for the Year Ended December 31
Sales
$ 900
$500
Income from Sam
38
—
Gain on machinery
40
—
Cost of sales
(400)
(300)
Depreciation expense
(90)
(60)
Other expenses
(160 )
(40 )
Net income
328
100
Add: Beginning retained earnings
155
250
Less: Dividends
(200 )
(50 )
Retained earnings December 31
$ 283
$300
Balance Sheet at December 31
Cash
$ 20
$ 80
Accounts receivable
130
30
Dividends receivable
20
—
Inventories
90
70
Other current items
20
80
Land
50
40
Buildings—net
60
105
Machinery—net
100
320
Investment in Sam
510
—
Total assets
$1,000
$725
Accounts payable
$ 177
$ 40
Dividends payable
100
25
Other liabilities
140
60
Capital stock, $10 par
300
300
Retained earnings
283
300
Total equities
$1,000
$725
ADDITIONAL INFORMATION
1. The fair value/book value differential from Pam’s two purchases of Sam was goodwill.
2. Pam Corporation sold inventory items to Sam during 2011 for $60,000, at a gross profit of $10,000. During 2012, Pam’s sales to Sam were $48,000, at a gross profit of $8,000. Half of the 2011 intercompany sales were inventoried by Sam at year end 2011, and three fourths of the 2012 sales remained unsold by Sam at year end 2012. Sam owes Pam $25,000 from 2012 purchases.
3. At year end 2011, Sam purchased land from Pam for $20,000. The cost of this land to Pam was $12,000.
4. Pam sold machinery with a book value of $40,000 to Sam for $80,000 on July 8, 2012. The machinery had a five year useful life at that time. Sam uses straight line depreciation without considering salvage value on the machinery.
5. Pam uses a one line consolidation in accounting for Sam. Both Pam and Sam Corporations declared dividends for 2012 in equal amounts in June and December.
REQUIRED: Prepare a workpaper to consolidate the financial statements of Pam Corporation and Subsidiary for the year ended December 31, 2012.
Workpaper (mid year acquisition, preacquisition income and dividends, upstream sale of inventory, downstream sale of inventory item used by subsidiary as plant asset)
Pan Corporation acquired an 85 percent interest in Sly Corporation on August 1, 2011, for $522,750, equal to 85 percent of the underlying equity of Sly on that date.
In August 2011, Sly sold inventory items to Pan for $60,000 at a gross profit of $15,000. Onethird of these items remained in Pan’s inventory at December 31, 2011.
On September 30, 2011, Pan sold an inventory item (equipment) to Sly for $50,000 at a gross profit to Pan of $10,000. When this equipment was placed in service by Sly, it had a five year remaining useful life and no expected salvage value.
Sly’s dividends were declared in equal amounts on June 15 and December 15, and its income was earned in relatively equal amounts throughout each quarter of the year. Pan applies the equity method, such that its net income is equal to the controlling share of consolidated net income. Financial statements for Pan and Sly are as follows (in thousands):
Pan
Sly
Combined Income and Retained Earnings Statement
for the Year Ended December 31, 2011
Sales
$ 910
$400
Income from Sly
7.5
—
Cost of sales
(500)
(250)
Operating expenses
(200.0)
(90 )
Net income
217.5
60
Add: Beginning retained earnings
192.5
100
Deduct: Dividends
(100)
(40)
Retained earnings December 31
$ 310
$120
Balance Sheet at December 31, 2011
Cash
$ 33.75
$ 10
Dividends receivable
17
—
Accounts receivable—net
120
70
Inventories
300
150
Plant assets—net
880
500
Investment in Sly—85%
513.25
—
Total assets
$1,864
$730
Accounts payable
$ 154
$ 90
Dividends payable
—
20
Capital stock
1,400
500
Retained earnings
310
120
Total equities
$1,864
$730
REQUIRED: Prepare a consolidation workpaper for the year ended December 31, 2011.
Consolidated statement of cash flows–indirect method (sale of an interest)
Comparative consolidated financial statements for Pop Corporation and its subsidiary, Sat Corporation, at and for the years ended December 31, 2012 and 2011 follow (in thousands).
Pop Corporation and Subsidiary Comparative Consolidated Financial Statements at and for the Years Ended December 31, 2012 and 2011
Year 2012
Year 2011
Year’s Change 2012–2011
Income Statement
Sales
$3,050.0
$2,850.0
$ 200.0
Gain on 10% interest
5.7
5.7
Cost of sales
(1,750.7)
(1,690.0)
(60.7)
Depreciation expense
(528.0)
(508.0)
(20.0)
Other expenses
(455.0)
(392.0)
(63.0)
Noncontrolling interest share
(22.0 )
(10.0 )
(12.0 )
Net income
$ 300.0
$ 250.0
$ 50.0
Retained Earnings
Retained earnings—beginning
$1,000.0
$ 950.0
$ 50.0
Net income
300.0
250.0
50.0
Dividends
(200.0 )
(200.0 )
.0
Retained earnings—ending
$1,100.0
$1,000.0
$ 100.0
Balance Sheet
Cash
$ 46.5
$ 50.5
$ (4.0)
Accounts receivable—net
87.5
90.0
(2.5)
Inventories
377.5
247.5
130.0
Prepaid expenses
68.0
88.0
(20.0)
Equipment
2,970.0
2,880.0
90.0
Accumulated depreciation
(1,542.0)
(1,044.0)
(498.0)
Land and buildings
960.0
960.0
.0
Accumulated depreciation
(300.0 )
(272.0 )
(28.0 )
Total assets
$2,667.5
$3,000.0
$(332.5)
Accounts payable
$ 140.0
$ 343.5
$(203.5)
Dividends payable
52.5
52.5
.0
Long term notes payable
245.0
545.0
(300.0)
Capital stock, $10 par
1,000.0
1,000.0
.0
Retained earnings
1,100.0
1,000.0
100.0
Noncontrolling interest
130.0
59.0
71.0
Total equities
$2,667.5
$3,000.0
$(332.5)
REQUIRED: Prepare a consolidated statement of cash flows for the year ended December 31, 2012. The changes in equipment are due to a $100,000 equipment acquisition, current depreciation, and the sale of one ninth of the fair value/book value differential allocated to equipment ($10,000) and related accumulated depreciation ($2,000). This reduction in the unamortized fair value/book value differential results from selling a 10 percent interest in Sat for $72,700 and thereby reducing its interest from 90 percent to 80 percent Sat’s net income and dividends for 2012 were $110,000 and $50,000, respectively. Use the indirect method.
Pub Corporation owns 60 percent of Sam Corporation and 80 percent of Tim Corporation. Tim owns 20 percent of Sam. Separate income and loss data (not including investment income) for the three affiliates for 2011 are as follows:
Pub
$800,000 separate income
Sam
$300,000 separate income
Tim
($400,000) separate loss
There are no differentials or unrealized profits to consider in measuring 2011 income.
REQUIRED: Calculate the controlling share of consolidated net income for 2011.
Pal Corporation owns 80 percent each of the voting common stock of Sal and Tea Corporations. Sal owns 60 percent of the voting common stock of Won Corporation and 10 percent of the voting stock of Tea. Tea owns 70 percent of the voting stock of Val and 10 percent of the voting stock of Won.
The affiliates had separate incomes during 2011 as follows:
Pal Corporation
$50,000
Sal Corporation
$30,000
Tea Corporation
$35,000
Won Corporation
($20,000) loss
Val Corporation
$40,000
The only intercompany profits included in the separate incomes of the affiliates consisted of $5,000 on merchandise that Pal acquired from Tea and which remained in Pal’s December 31, 2011, inventory.
REQUIRED: Compute controlling and noncontrolling interest shares of consolidated net income.
Calculate controlling interest share and noncontrolling interest share of consolidated net income
Pet Corporation owns 90 percent of the stock of Man Corporation and 70 percent of the stock of Nun Corporation. Man owns 70 percent of the stock of Oak Corporation and 10 percent of the stock of Nun Corporation. Nun Corporation owns 20 percent of the stock of Oak Corporation.
Separate incomes for the year ended December 31, 2011, are as follows:
Pet
$65,000
Man
$18,000
Nun
$28,000
Oak
$ 9,000
During 2011, Man sold land to Nun at a profit of $4,000. Oak sold inventory items to Pet at a profit of $8,000, half of which remains in Pet’s inventory. Pet purchased for $15,000 Nun’s bonds, which had a book value of $17,000 on
December 31, 2011.
REQUIRED: Calculate controlling and noncontrolling interest shares of consolidated net income for 2011.
Consolidated net income (upstream and downstream sales)
Income data from the records of Par Corporation and Sum Corporation, Par’s 80 percent owned subsidiary, for 2011 through 2014 follow (in thousands):
2011
2012
2013
2014
Par’s separate income
$200
$150
$40
$120
Sum’s net income
60
70
80
90
Par acquired its interest in Sum on January 1, 2011, at a price of $40,000 less than book value. The $40,000 was assigned to a reduction of plant assets with a remaining useful life of 10 years.
On July 1, 2011, Sum sold land that cost $25,000 to Par for $30,000. This land was resold by Par for $35,000 in 2014.
Par sold machinery to Sum for $100,000 on January 2, 2012. This machinery had a book value of $75,000 at the time of sale and is being depreciated by Sum at the rate of $20,000 per year.
Par’s December 31, 2013, inventory included $8,000 unrealized profit on merchandise acquired from Sum during 2013. This merchandise was sold by Par during 2014.
REQUIRED: Prepare a schedule to calculate the consolidated net income of Par Corporation and Subsidiary for each of the years 2011, 2012, 2013, and 2014.
Consolidated income statement (incomplete equity method, downstream sales)
The separate income statements of Pea Corporation and its 90 percent owned subsidiary, Sea Corporation, for 2011 are summarized as follows (in thousands):
Pea
Sea
Sales
$1,000
$600
Income from Sea
90
—
Gain on equipment
40
—
Cost of sales
(600)
(400)
Other expenses
(200)
(100 )
Net income
$ 330
$100
Investigation reveals that the effects of certain intercompany transactions are not included in Pea’s income from Sea. Information about those intercompany transactions follows:
1. Inventories—Sales of inventory items from Pea to Sea are summarized as follows:
2010
2011
Intercompany sales
$100,000
$150,000
Cost of intercompany sales
60,000
90,000
Percentage unsold at year end
50%
40%
2. Plant assets—Pea sold equipment with a book value of $60,000 to Sea for $100,000 on January 1, 2011. Sea depreciates the equipment on a straight line basis (no scrap) over a four year period.
REQUIRED
1. Determine the correct amount of Pea’s income from Sea for 2011.
2. Prepare a consolidated income statement for Pea Corporation and Subsidiary for 2011.
The following information related to intercompany bond holdings was taken from the adjusted trial balances of a parent and its 90 percent owned subsidiary four years before the bond issue matured:
Parent
Subsidiary
Investment in S bonds, $50,000 par
$49,000
Interest receivable
2,500
Interest expense
$ 9,000
10% bonds payable, $100,000 par
100,000
Bond premium
4,000
Interest income
5,250
Interest payable
5,000
Construct the consolidation workpaper entries necessary to eliminate reciprocal balances (a) assuming that the parent acquired its intercompany bond investment at the beginning of the current year, and (b) assuming that the parent acquired its intercompany bond investment two years prior to the date of the adjusted trial balance.
Straight line interest amortization of bond premiums and discounts is used as an expedient in this book. However, the effective interest rate method is generally required under GAAP. When using the effective interest rate method:
a The amount of the piecemeal recognition of a constructive gain or loss is the difference between the intercompany interest expense and income that is eliminated.
b The piecemeal recognition of a constructive gain or loss is recorded in the separate accounts of the affiliates.
c No piecemeal recognition of the constructive gain or loss is required for consolidated statement purposes.
d The issuing and the purchasing affiliates do not amortize the discounts and premiums on their separate books because the bonds are retired.
Consolidated income statement (constructive gain on purchase of parent’s bonds)
Comparative income statements for Pim Corporation and its 100 percent owned subsidiary, Sad Corporation, for the year ended December 31, 2019, are summarized as follows:
Pim
Sad
Sales
$1,000,000
$500,000
Income from Sad
226,000
—
Bond interest income (includes
—
22,000
discount amortization)
Cost of sales
(670,000)
(200,000)
Operating expenses
(150,000)
(100,000)
Bond interest expense
(50,000 )
—
Net income
$ 356,000
$222,000
Pim purchased its interest in Sad at fair value equal to book value on January 1, 2011. On January 1, 2012, Pim sold $500,000 par of 10 percent, 10 year bonds to the public at par, and on January 2, 2019, Sad purchased $200,000 par of the bonds at 97. The companies use straight line amortization. There are no other intercompany transactions between the affiliates.
Required: Prepare a consolidated income statement for Pim Corporation and Subsidiary for the year ended December 31, 2019.
The consolidated balance sheet of Par Corporation and Say (its 80 percent owned subsidiary) at December 31, 2011, includes the following items related to an 8 percent, $1,000,000 outstanding bond issue:
Current Liabilities
Bond interest payable (6 months’ interest due January 1, 2012)
$ 40,000
Long Term Liabilities
8% bonds payable (maturity date January 1, 2016, net of
$970,000
$30,000 unamortized discount)
Par Corporation is the issuer, and straight line amortization is applicable. Say purchases $600,000 par of the outstanding bonds of Par on July 2, 2012, for $574,800.
REQUIRED
1. Calculate the following:
a. The gain or loss on constructive retirement of the bonds
b. The consolidated bond interest expense for 2012
c. The consolidated bond liability at December 31, 2012
2. How would the amounts determined in part 1 differ if Par purchased Say’s bonds?
Different assumptions for purchase of parent’s bonds and subsidiary’s bonds
The balance sheets of Pin and Sid Corporations, an 80 percent owned subsidiary of Pin, at December 31, 2011, are as follows (in thousands):
Pin
Sid
Assets
$ 2,440
$2,500
Cash
3,000
300
Accounts receivable—net
8,000
1,200
Other current assets
15,000
5,500
Plant assets—net
6,560
—
Investment in Sid
$35,000
$9,500
Total assets
Liabilities and Stockholders’ Equity
Accounts payable
$ 750
$ 230
Interest payable
250
50
10% bonds payable (due January 1, 2017)
4,900
1,020
Capital stock
25,000
7,000
Retained earnings
4,100
1,200
Total liabilities and stockholders’ equity
$35,000
$9,500
The book value of Pin’s bonds reflects a $100,000 unamortized discount. The book value of Sid’s bonds reflects a $20,000 unamortized premium.
REQUIRED
1. Assume that Sid purchases $2,000,000 par of Pin’s bonds for $1,900,000 on January 2, 2012, and that semiannual interest is paid on July 1 and January 1. Determine the amounts at which the following items should appear in the consolidated financial statements of Pin and Sid at and for the year ended December 31, 2012.
a. Gain or loss on bond retirement
b. Interest payable
c. Bonds payable at par value
d. Investment in Pin bonds
2. Disregard 1 above and assume that Pin purchases $1,000,000 par of Sid’s bonds for $1,030,000 on January 2, 2012, and that semiannual interest on the bonds is paid on July 1 and January 1. Determine the amounts at which the following items will appear in the consolidated financial statements of Pin and Sid for the year ended December 31, 2012.
a. Gain or loss on bond retirement
b. Interest expense (assume straight line amortization)
Pad Corporation has $2,000,000 of 12 percent bonds outstanding on December 31, 2011, with unamortized premium of $60,000. These bonds pay interest semiannually on July 1 and January 1 and mature on January 1, 2017.
On January 2, 2012, Sal Corporation, an 80 percent owned subsidiary of Pad, purchases $500,000 par of Pad’s outstanding bonds in the market for $490,000.
ADDITIONAL INFORMATION
1. Pad and Sal use the straight line method of amortization.
2. The financial statements are consolidated.
3. Pad’s bonds are the only outstanding bonds of the affiliated companies.
4. Sal’s net income for 2012 is $200,000 and for 2013, $300,000.
REQUIRED
1. Compute the constructive gain or loss that will appear in the consolidated income statement for 2012.
2. Prepare a consolidation entry (entries) at December 31, 2012, to eliminate the effect of the intercompany bond holdings.
3. Compute the amounts that will appear in the consolidated income statement for 2013 for the following:
a. Constructive gain or loss
b. Noncontrolling interest share
c. Bond interest expense
d. Bond interest income
4. Compute the amounts that will appear in the consolidated balance sheet at December 31, 2013, for the following:
Consolidated income statement (constructive retirement of all subsidiary bonds)
Comparative income statements for Par Corporation and its 80 percent owned subsidiary, Saw Corporation, for the year ended December 31, 2012, are summarized as follows:
Par
Saw
Sales
$1,200,000
$600,000
Income from Saw
260,800
—
Bond interest income (includes
91,000
—
discount amortization)
Cost of sales
(750,000)
(200,000)
Operating expenses
(200,000)
(200,000)
Bond interest expense
—
(60,000 )
Net income
$ 601,800
$140,000
Par purchased its 80 percent interest in Saw at book value on January 1, 2011, when Saw’s assets and liabilities were equal to their fair values.
On January 1, 2012, Par paid $783,000 to purchase all of Saw’s $1,000,000, 6 percent outstanding bonds. The bonds were issued at par on January 1, 2010, pay interest semiannually on June 30 and December 31, and mature on December 31, 2018.
Required: Prepare a consolidated income statement for Par Corporation and Subsidiary for the year ended December 31, 2012.
Computations and entries (parent purchases subsidiary bonds)
Pub Corporation, which owns an 80 percent interest in Sap Corporation, purchases $100,000 of Sap’s 8 percent bonds at 106 on July 2, 2011. The bonds pay interest on January 1 and July 1 and mature on July 1, 2014. Pub uses the equity method for its investment in Sap. Selected data from the December 31, 2011, trial balances of the two companies are as follows:
Pub
Sap
Interest receivable
$ 4,000
$ —
Investment in Sap 8% bonds
105,000
—
Interest payable
—
40,000
8% bonds payable ($1,000,000 par)
—
985,000
Interest income
3,000
—
Interest expense
—
86,000
Gain or loss on retirement of intercompany bonds
REQUIRED
1. Determine the amounts for each of the foregoing items that will appear in the consolidated financial statements on or for the year ended December 31, 2011.
2. Prepare in general journal form the workpaper adjustments and eliminations related to the foregoing bonds that are required to consolidate the financial statements of Pub and Sap Corporations for the year ended December 31, 2011.
3. Prepare in general journal form the workpaper adjustments and eliminations related to the bonds that are required to consolidate the financial statements of Pub and Sap Corporations for the year ended December 31, 2012.
Computations and entries (constructive gain on purchase of parent bonds)
Pap Corporation acquired an 80 percent interest in Son Corporation at book value equal to fair value on January 1, 2012, at which time Son’s capital stock and retained earnings were $100,000 and $40,000, respectively. On January 2, 2013, Son purchased $50,000 par of Pap’s 8 percent, $100,000 par bonds for $48,800 three years before maturity. Interest payment dates are January 1 and July 1. During 2013, Son reports interest income of $4,400 from the bonds, and Pap reports interest expense of $8,000.
ADDITIONAL INFORMATION
1. Pap’s separate income for 2013 is $200,000.
2. Son’s net income for 2013 is $50,000.
3. Pap accounts for its investment by the equity method.
4. Straight line amortization is applicable.
REQUIRED
1. Determine the gain or loss on the bonds.
2. Prepare the journal entries for Son to account for its bond investment during 2013.
3. Prepare the journal entries for Pap to account for its bonds payable during 2013.
4. Prepare the journal entry for Pap to account for its 80% investment in Son for 2013.
5. Calculate noncontrolling interest share and consolidated net income for 2013.
Computations and entries (constructive retirement of parent’s bonds)
Partial adjusted trial balances for Pan Corporation and its 90 percent owned subsidiary, Son Corporation, for the year ended December 31, 2011, are as follows:
Pan Corporation Debit (Credit)
Son Corporation Debit (Credit)
Interest receivable
$ —
$ 1,000
Investment in Pan bonds
—
52,700
Interest payable
(2,000)
—
8% bonds payable, due April 1, 2014
(98,200)
—
Interest income
—
(2,100)
Interest expense
8,800
—
Son Corporation acquired $50,000 par of Pan bonds on April 2, 2011, for $53,600. The bonds pay interest on April 1 and October 1 and mature on April 1, 2014.
REQUIRED
1. Compute the gain or loss on the bonds that will appear in the 2011 consolidated income statement.
2. Determine the amounts of interest income and expense that will appear in the 2011 consolidated income statement.
3. Determine the amounts of interest receivable and payable that will appear in the December 31, 2011, consolidated balance sheet.
4. Prepare in general journal form the consolidation workpaper entries needed to eliminate the effects of the intercompany bonds for 2011.
Four year income schedule (several intercompany transactions)
Intercompany transactions between Pew Corporation and Sat Corporation, its 80 percent owned subsidiary, from January 2011, when Pew acquired its controlling interest, to December 31, 2014, are summarized as follows:
2011
Pew sold inventory items that cost $60,000 to Sat for $80,000. Sat sold $60,000 of these inventory items in 2011 and $20,000 of them in 2012.
2012
Pew sold inventory items that cost $30,000 to Sat for $40,000. All of these items were sold by Sat during 2013.
2013
Sat sold land with a book value of $40,000 to Pew at its fair market value of $55,000. This land is to be used as a future plant site by Pew.
2013
Pew sold equipment with a four year remaining useful life to Sat on January 1 for $80,000. This equipment had a book value of $50,000 at the time of sale and was still in use by Sat at December 31, 2014.
2014
Sat purchased $100,000 par of Pew’s 10% bonds in the bond market for $106,000 on January 2, 2014. These bonds had a book value of $98,000 when acquired by Sat and mature on January 1, 2018.
The separate income of Pew (excludes income from Sat) and the reported net income of Sat for 2011 through 2014 were:
2011
2012
2013
2014
Separate income of Pew
$500,000
$375,000
$460,000
$510,000
Net income of Sat
100,000
120,000
110,000
120,000
REQUIRED: Compute Pew’s net income (and the controlling share of consolidated net income) for each of the years 2011 through 2014. A schedule with columns for each year is suggested as the most efficient approach to solve of this problem. (Use straight line depreciation and amortization and take a full year’s depreciation on the equipment sold to Sat in 2013.)
Workpapers (constructive retirement of bonds, intercompany sales)
Financial statements for Pad Corporation and its 75 percent owned subsidiary, Sum Corporation, for
2011 are summarized as follows (in thousands):
Pad
Sum
Combined Income and Retained Earnings Statement
for the Year Ended December 31, 2011
Sales
$1,260
$1,000
Gain on land
20
—
Gain on building
40
—
Income from Sum
104
—
Cost of goods sold
(700)
(600)
Depreciation expense
(152)
(80)
Interest expense
(40)
—
Other expenses
(92
(120 )
Net income
440
200
Add: Retained earnings, January 1
300
200
Deduct: Dividends
(320
(160 )
Retained earnings, December 31
$ 420
$ 240
Balance Sheet at December 31, 2011
Cash
$ 54
$ 162
Bond interest receivable
—
10
Other receivables—net
80
60
Inventories
160
100
Land
180
140
Buildings—net
300
360
Equipment—net
280
180
Investment in Sum
686
—
Investment in Pad Bonds
—
188
Total assets
$1,740
$1,200
Accounts payable
$ 100
$ 160
Bond interest payable
20
—
10% bonds payable
400
—
Common stock
800
800
Retained earnings
420
240
Total equities
$1,740
$1,200
Pad acquired its interest in Sum at book value during 2008, when the fair values of Sum’s assets and liabilities were equal to their recorded book values.
ADDITIONAL INFORMATION
1. Pad uses the equity method for its investment in Sum.
2. Intercompany merchandise sales totalled $100,000 during 2011. All intercompany balances have been paid except for $20,000 in transit at December 31, 2011.
3. Unrealized profits in Sum’s inventory of merchandise purchased from Pad were $24,000 on December 31, 2010, and $30,000 on December 31, 2011.
4. Sum sold equipment with a six year remaining life to Pad on January 3, 2009, at a gain of $48,000. Pad still uses the equipment in its operations.
5. Pad sold land to Sum on July 1, 2011, at a gain of $20,000.
6. Pad sold a building to Sum on July 1, 2011, at a gain of $40,000. The building has a 10 year remaining life and is still used by Sum.
7. Sum purchased $200,000 par value of Pad’s 10 percent bonds in the open market for $188,000 plus $10,000 accrued interest on December 31, 2011. Interest is paid semiannually on January 1 and July 1. The bonds mature on December 31, 2016.
Required: Prepare consolidation workpapers for Pad Corporation and Subsidiary for the year ended December 31, 2011.
Computations of separate and consolidated statements given
Pet Corporation acquired an 80 percent interest in She Corporation on January 1, 2011, for $320,000, at which time She had capital stock of $200,000 outstanding and retained earnings of $100,000. The price paid reflected a $100,000 undervaluation of She’s plant and equipment. The plant and equipment had a remaining useful life of eight years when Pet acquired its interest.
Separate and consolidated financial statements for Pet Corporation and its subsidiary, She Corporation, for the year ended December 31, 2013, are as follows:
Pet
She
Consolidated
Combined Income and Retained
Earnings Statement for the Year
Ended December 31, 2013
Sales
$ 180,000
$100,000
$230,000
Income from She
20,000
—
—
Interest income
—
8,000
—
Cost of goods sold
(110,000)
(60,000)
(110,000)
Operating expenses
(30,000)
(18,000)
(58,000)
Interest expense
(18,000)
—
(9,000)
Loss
—
—
(3,000)
Noncontrolling interest share
—
—
(8,000)
Controlling share of net income
42,000
30,000
42,000
Add: Beginning retained earnings
294,000
135,000
294,000
Deduct: Dividends
(20,000 )
(15,000 )
(20,000 )
Ending retained earnings
$ 316,000
$150,000
$316,000
Balance Sheet at December 31, 2013
Cash
$ 60,000
$ 26,000
$ 86,000
Accounts receivable
120,000
$ 60,000
165,000
Inventories
100,000
50,000
140,000
Plant and equipment
500,000
200,000
780,000
Accumulated depreciation
(100,000)
(50,000)
(180,000)
Investment in She stock
320,000
—
—
Investment in Pet bonds
—
104,000
—
Total assets
$1,000,000
$390,000
$991,000
Accounts payable
$ 80,000
$ 40,000
$105,000
10% bonds payable
204,000
—
102,000
Common stock
400,000
200,000
400,000
Retained earnings
316,000
150,000
316,000
Noncontrolling interest
—
—
68,000
Total equities
$1,000,000
$390,000
$991,000
She sells merchandise to Pet but never purchases from Pet. On January 1, 2013, She purchased $100,000 par of 10 percent Pet Corporation bonds for $106,000. These bonds mature on December 31, 2015, and She expects to hold the bonds until maturity. Both She and Pet use straight line amortization. Interest is payable on December 31.
REQUIRED: Show computations for each of the following items:
1. The $3,000 loss in the consolidated income statement
2. The $230,000 consolidated sales
3. Consolidated cost of goods sold of $110,000
4. Intercompany profit in beginning inventories
5. Intercompany profit in ending inventories
6. Consolidated accounts receivable of $165,000
7. Noncontrolling interest share of $8,000
8. Noncontrolling interest at December 31, 2013
9. Investment in She stock at December 31, 2012
10. Investment income account of $20,000 (Pet’s books)
Computations (constructive retirement of subsidiary bonds)
Selected amounts from the separate unconsolidated financial statements of Poe Corporation and its 90 percent owned subsidiary, Saw Company, at December 31, 2011, are as follows.
Poe
Saw
Selected Income Statement Amounts
Sales
$710,000
$530,000
Cost of goods sold
490,000
370,000
Gain on sale of equipment
—
21,000
Earnings from investment in subsidiary
63,000
—
Interest expense
—
16,000
Depreciation
25,000
20,000
Selected Balance Sheet Amounts
Cash
$ 50,000
$ 15,000
Inventories
229,000
150,000
Equipment
440,000
360,000
Accumulated depreciation
(200,000)
(120,000)
Investment in Saw
189,000
—
Investment in bonds
91,000
—
Bonds payable
—
(200,000)
Common stock
(100,000)
(10,000)
Additional paid in capital
(250,000)
(40,000)
Retained earnings
(402,000)
(140,000)
Selected Statement of Retained
Earnings Amounts
Beginning balance December 31, 2010
$272,000
$100,000
Net income
212,000
70,000
Dividends paid
80,000
30,000
ADDITIONAL INFORMATION
1. On January 2, 2011, Poe purchased 90 percent of Saw’s 100,000 outstanding common stock for cash of $153,000. On that date, Saw’s stockholders’ equity equaled $150,000 and the fair values of Saw’s assets and liabilities equaled their carrying amounts. Poe accounted for the combination as an acquisition. The difference between fair value and book value was due to goodwill.
2. On September 4, 2011, Saw paid cash dividends of $30,000.
3. On December 31, 2011, Poe recorded its equity in Saw’s earnings.
4. On January 3, 2011, Saw sold equipment with an original cost of $30,000 and a carrying value of $15,000 to Poe for $36,000. The equipment had a remaining life of three years and was depreciated using the straight line method by both companies.
5. During 2011, Saw sold merchandise to Poe for $60,000, which included a profit of $20,000. At December 31, 2011, half of this merchandise remained in Poe’s inventory.
6. On December 31, 2011, Poe paid $91,000 to purchase half of the outstanding bonds issued by Saw. The bonds mature on December 31, 2017, and were originally issued at par. These bonds pay interest annually on December 31 of each year, and the interest was paid to the prior investor immediately before Poe’s purchase of the bonds.
REQUIRED: Determine the amounts at which the following items will appear in the consolidated financial statements of Poe Corporation and Subsidiary for the year ended December 31, 2011.
Workpapers (constructive retirement of bonds, intercompany sales)
Financial statements for Par Corporation and its 75 percent owned subsidiary, Sal Corporation, for 2012 are summarized as follows (in thousands):
Par
Sal
Combined Income and Retained Earnings Statement for
the Year Ended December 31, 2012
Sales
$630
$500
Gain on plant
30
—
Income from Sal
52
—
Cost of goods sold
(350)
(300)
Depreciation expense
(76)
(40)
Interest expense
(20)
—
Other expenses
(46 )
(60 )
Net income
220
100
Add: Beginning retained earnings
150
100
Deduct: Dividends
(160 )
(80 )
Retained earnings December 31
$210
$120
Balance Sheet at December 31, 2012
Cash
$ 27
$ 81
Bond interest receivable
—
5
Other receivables—net
40
30
Inventories
80
50
Land
90
70
Buildings—net
150
180
Equipment—net
140
90
Investment in Sal
343
—
Investment in Par bonds
—
94
Total assets
$870
$600
Accounts payable
$ 50
$ 80
Bond interest payable
10
—
10% bonds payable
200
—
Common stock
400
400
Retained earnings
210
120
Total equities
$870
$600
Par Corporation acquired its interest in Sal at book value during 2009, when the fair values of Sal’s assets and liabilities were equal to recorded book values.
ADDITIONAL INFORMATION
1. Par uses the equity method for its investment in Sal.
2. Intercompany sales of merchandise between the two affiliates totalled $50,000 during 2012. All intercompany balances have been paid except for $10,000 in transit from Sal to Par at December 31, 2012.
3. Unrealized profits in Sal’s inventories of merchandise acquired from Par were $12,000 at December 31, 2011, and $15,000 at December 31, 2012.
4. Sal sold equipment with a six year remaining useful life to Par on January 2, 2010, at a gain of $24,000. The equipment is still in use by Par.
5. Par sold a plant to Sal on July 1, 2012. The land was sold at a gain of $10,000 and the building, which had a remaining useful life of 10 years, at a gain of $20,000.
6. Sal purchased $100,000 par of Par 10 percent bonds in the open market for $94,000 plus $5,000 accrued interest on December 31, 2012. Interest is paid semiannually on January 1 and July 1, and the bonds mature on January 1, 2017.
Required: Prepare a consolidation workpaper for Par Corporation and Subsidiary for the year ended
Piecemeal acquisition of controlling interest with preacquisition income and dividends
On January 1, 2011, Pin Industries purchased a 40 percent interest in Sip Corporation for $800,000, when Sip’s stockholders’ equity consisted of $1,000,000 capital stock and $1,000,000 retained earnings. On September 1, 2011, Pin purchased an additional 20 percent interest in Sip for $420,000. Both purchases were made at book value equal to fair value.
Sip had income for 2011 of $240,000, earned evenly throughout the year, and it paid dividends of $60,000 in April and $60,000 in October.
REQUIRED: Compute the following:
1. Pin’s income from Sip for 2011
2. Preacquisition income that will appear on the consolidated income statement for 2011
Sale of equity interest—beginning of year or actual sale date assumption
The balance of Pal Corporation’s investment in Sag Company account at December 31, 2010, was $436,000, consisting of 80 percent of Sag’s $500,000 stockholders’ equity on that date and $36,000 goodwill.
On May 1, 2011, Pal sold a 20 percent interest in Sag (one fourth of its holdings) for $130,000. During 2011, Sag had net income of $150,000, and on July 1, 2011, Sag declared dividends of $80,000.
Required: (Solve using both the actual date of sale assumption and the beginning of the year sale assumption.)
1. Determine the gain or loss on sale of the 20 percent interest.
2. Calculate Pal’s income from Sag for 2011.
3. Determine the balance of Pal’s Investment in Sag account at December 31, 2011.
Computations and workpaper entries (mid year acquisition)
Pig Corporation paid $1,274,000 cash for 70 percent of the common stock of Set Corporation on June 1, 2011. The assets and liabilities of Set were fairly valued, and any fair value/book value differential is goodwill. Data related to the stockholders’ equity of Set are as follows:
Stockholders’ Equity December 31, 2010
Common stock, $10 par
$1,000,000
Retained earnings
480,000
Total stockholders’ equity
$1,480,000
Income and Dividends—2011
Net income (earned evenly throughout the year)
$ 240,000
Dividends (declared and paid in equal
120,000
amounts in January, April, July, and October)
REQUIRED
1. Determine the following:
a. Goodwill from the investment in Set
b. Pig’s income from Set for 2011
c. The Investment in Set account balance at December 31, 2011
2. Prepare the workpaper entries needed to consolidate the financial statements for 2011. Add the preacquisition income to Retained Earnings—Set.
Pat Corporation owns 70 percent of Sue Company’s common stock, acquired January 1, 2012. Patents from the investment are being amortized at a rate of $20,000 per year. Sue regularly sells merchandise to Pat at 150 percent of Sue’s cost. Pat’s December 31, 2012, and 2013 inventories include goods purchased intercompany of $112,500 and $33,000, respectively. The separate incomes (do not include investment income) of Pat and Sue for 2013 are summarized as follows:
Pat
Sue
Sales
$1,200,000
$800,000
Cost of sales
(600,000)
(500,000)
Other expenses
(400,000)
(100,000 )
Separate incomes
$ 200,000
$200,000
Total consolidated income should be allocated to controlling and noncontrolling interest shares in the amounts of:
San Corporation, a 75 percent owned subsidiary of Par Corporation, sells inventory items to its parent at 125 percent of cost. Inventories of the two affiliates for 2011 are as follows:
Par
San
Beginning inventory
$400,000
$250,000
Ending inventory
500,000
200,000
Par’s beginning and ending inventories include merchandise acquired from San of $150,000 and $200,000, respectively, which is sold in the following year. If San reports net income of $300,000 for 2011, Par’s income from San will be:
Determine consolidated net income with downstream intercompany sales
Pan Corporation owns an 80 percent interest in the common stock of She Corporation, acquired several years ago at book value. Pan regularly sells merchandise to She. Information relevant to the intercompany sales and profits of Pan and She for 2011, 2012, and 2013 is as follows:
2011
2012
2013
Sales to She
$300,000
$360,000
$600,000
Unrealized profit in She’s inventory
at December 31
90,000
120,000
60,000
She’s separate income
1,500,000
1,650,000
1,425,000
Pan’s separate income (does not include
investment income)
900,000
1,200,000
1,050,000
REQUIRED: Prepare a schedule showing consolidated net income for each year.
Consolidated income statement with downstream sales
The separate incomes (which do not include investment income) of Pic Corporation and Sil Corporation, its 80 percentowned subsidiary, for 2011 were determined as follows (in thousands):
Pic
Sil
Sales
$800
$200
Less: Cost of sales
400
80
Gross profit
400
120
Other expenses
200
60
Separate incomes
$200
$ 60
During 2011, Pic sold merchandise that cost $40,000 to Sil for $80,000, and at December 31, 2011, half of these inventory items remained unsold by Sil.
Required : Prepare a consolidated income statement for Pic Corporation and Subsidiary for the year ended December 31, 2011.
Compute noncontrolling interest and consolidated cost of sales (upstream sales)
Income statement information for 2011 for Pug Corporation and its 60 percent owned subsidiary, Sev Corporation, is as follows:
Pug
Sev
Sales
$900
$350
Cost of sales
400
250
Gross profit
500
100
Operating expenses
250
50
Sev’s net income
$ 50
Pug’s separate income
$250
Intercompany sales for 2011 are upstream (from Sev to Pug) and total $100,000. Pug’s December 31, 2010, and December 31, 2011, inventories contain unrealized profits of $5,000 and $10,000, respectively.
REQUIRED
1. Compute noncontrolling interest share for 2011.
2. Compute consolidated sales, cost of sales, and total consolidated income for 2011.
Pap Corporation purchased an 80 percent interest in Sak Corporation for $1,200,000 on January 1, 2012, at which time Sak’s stockholders’ equity consisted of $1,000,000 common stock and $400,000 retained earnings. The excess fair value over book value was goodwill. Comparative income statements for the two corporations for 2013 are as follows:
Pap
Sak
Sales
$2,000
$1,000
Income from Sak
224
—
Cost of sales
(800)
(500)
Depreciation expense
(260)
(80)
Other expenses
(180 )
(120 )
Net income
$ 984
$ 300
Dividends of Pap and Sak for all of 2013 were $600,000 and $200,000, respectively. During 2012 Sak sold inventory items to Pap for $160,000. This merchandise cost Sak $100,000, and one third of it remained in Pap’s December 31, 2012, inventory. During 2013 Sak’s sales to Pap were $180,000. This merchandise cost Sak $120,000, and one half of it remained in Pap’s December 31, 2013, inventory.
REQUIRED: Prepare a consolidated income statement for Pap Corporation and Subsidiary for the year ended December 31, 2013.
Consolidated income statement (intercompany sales correction)
The consolidated income statement of Pul and Swa for 2011 was as follows (in thousands):
Sales
$2,760
Cost of sales
(1,840)
Operating expenses
(320)
Income to 20 percent noncontrolling interest in Swa
(80 )
Consolidated net income
$ 520
After the consolidated income statement was prepared, it was discovered that intercompany sales transactions had not been considered and that unrealized profits had not been eliminated. Information concerning these items follows (in thousands):
Cost
Selling Price
Unsold at Year End
2010 Sales—Pul to Swa
$320
$360
25%
2011 Sales—Swa to Pul
180
240
40
Required: Prepare a corrected consolidated income statement for Pul and Swa for the year ended December 31, 2011.
Consolidated income and retained earnings (upstream sales, noncontrolling interest)
Por Corporation acquired its 90 percent interest in Sam Corporation at its book value of $1,800,000 on January 1, 2011, when Sam had capital stock of $1,500,000 and retained earnings of $500,000.
The December 31, 2011 and 2012, inventories of Por included merchandise acquired from Sam of $150,000 and $200,000, respectively. Sam realizes a gross profit of 40 percent on all merchandise sold. During 2011 and 2012, sales by Sam to Por were $300,000 and $400,000, respectively. Summary adjusted trial balances for Por and Sam at December 31, 2012, follow (in thousands):
Por
Sam
Cash
$ 500
$ 100
Receivables—net
1,000
250
Inventories
1,200
500
Plant assets—net
1,250
2,400
Investment in Sam—90%
2,178
—
Cost of sales
4,000
1,950
Other expenses
1,700
800
Dividends
500
250
$12,328
$6,250
Por
Sam
Accounts payable
$ 750
$ 450
Other liabilities
300
300
Capital stock, $10 par
2,500
1,500
Retained earnings
1,846
750
Sales
6,500
3,250
Income from Sam
432
—
$12,328
$6,250
Required: Prepare a combined consolidated income and retained earnings statement for Por Corporation and Subsidiary for the year ended December 31, 2012.
Put Corporation acquired a 90 percent interest in Sam Corporation at book value on January 1, 2011. Intercompany purchases and sales and inventory data for 2011, 2012, and 2013, are as follows:
Sales by Sam to Put
Intercompany Profit in Put’s Inventory at December 31
2011
$200,000
$15,000
2012
150,000
12,000
2013
300,000
24,000
Selected data from the financial statements of Put and Sam at and for the year ended December 31, 2013, are as follows:
Put
Sam
Income Statement
Sales
$900,000
$600,000
Cost of sales
625,000
300,000
Expenses
225,000
150,000
Income from Sam
124,200
—
Balance Sheet
Inventory
$150,000
$ 80,000
Retained earnings December 31, 2013
425,000
220,000
Capital stock
500,000
300,000
Required: Prepare well organized schedules showing computations for each of the following:
Computations (parent buys from one subsidiary and sells to the other)
Pot Company owns controlling interests in San and Tay Corporations, having acquired an 80 percent interest in San in 2011, and a 90 percent interest in Tay on January 1, 2012. Pot’s investments in San and Tay were at book value equal to fair value.
Inventories of the affiliated companies at December 31, 2012, and December 31, 2013, were as follows:
December 31, 2012
December 31, 2013
Pot inventories
$120,000
$108,000
San inventories
77,500
62,500
Tay inventories
48,000
72,000
Pot sells to San at a 25 percent markup based on cost, and Tay sells to Pot at a 20 percent markup based on cost. Pot’s beginning and ending inventories for 2013 consisted of 40 percent and 50 percent, respectively, of goods acquired from Tay. All of San’s inventories consisted of merchandise acquired from Pot.
Required
1. Calculate the inventory that should appear in the December 31, 2012, consolidated balance sheet.
2. Calculate the inventory that should appear in the December 31, 2013, consolidated balance sheet.
Comparative income statements of Stu Corporation for the calendar years 2011, 2012, and 2013 are as follows (in thousands):
2011
2012
2013
Sales
$12,000
$12,750
$14,250
Cost of sales
6,300
6,600
7,500
Gross profit
5,700
6,150
6,750
Operating expenses
4,500
4,800
5,700
Net income
$ 1,200
$ 1,350
$ 1,050
Additional Information
1. Stu was a 75 percent owned subsidiary of Pli Corporation throughout the 2011–2013 period. Pli’s separate income (excludes income from Stu) was $5,400,000, $5,100,000, and $6,000,000 in 2011, 2012, and 2013, respectively. Pli acquired its interest in Stu at its underlying book value, which was equal to fair value on July 1, 2010.
2. Pli sold inventory items to Stu during 2011 at a gross profit to Pli of $600,000. Half the merchandise remained in Stu’s inventory at December 31, 2011. Total sales by Pli to Stu in 2011 were $1,500,000. The remaining merchandise was sold by Stu in 2012.
3. Pli’s inventory at December 31, 2012, included items acquired from Stu on which Stu made a profit of $300,000. Total sales by Stu to Pli during 2012 were $1,200,000.
4. There were no unrealized profits in the December 31, 2013, inventories of either Stu or Pli.
5. Pli uses the equity method of accounting for its investment in Stu.
Required
1. Prepare a schedule showing Pli’s income from Stu for the years 2011, 2012, and 2013.
2. Compute Pli’s net income for the years 2011, 2012, and 2013.
3. Prepare a schedule of consolidated net income for Pli Corporation and Subsidiary for the years 2011, 2012, and 2013, beginning with the separate incomes of the two affiliates and including noncontrolling interest computations.
Pen Corporation sold machinery to its 80 percent owned subsidiary, Sam Corporation, for $100,000 on December 31, 2011. The cost of the machinery to Pen was $80,000, the book value at the time of sale was $60,000, and the machinery had a remaining useful life of five years.
How will the intercompany sale affect Pen’s income from Sam and Pen’s net income for 2011?
Sam Corporation is a 90 percent owned subsidiary of Par Corporation, acquired by Par in 2011. During 2014 Par sells land to Sam for $50,000 for which it paid $25,000. Sam owns this land at December 31, 2014.
Required
1. How and in what amount will the sale of land affect Par’s income from Sam and net income for 2014 and the balance of Par’s Investment in Sam account on December 31, 2014?
2. How will the consolidated financial statements of Par Corporation and Subsidiary for 2014 be affected by the intercompany sale of land?
3. If Sam still owns the land at December 31, 2015, how will Par’s income from Sam and net income for 2015 be affected and what will be the effect on Par’s Investment in Sam account on December 31, 2015?
4. If Sam sells the land during 2016 for $50,000, how will Par’s income from Sam and total consolidated income for 2016 be affected?
Computations for downstream and upstream sales of land
Sir Corporation is a 90 percent owned subsidiary of Pit Corporation, acquired several years ago at book value equal to fair value. For 2011 and 2012, Pit and Sir report the following:
2011
2012
Pit’s separate income (excludes income from Sir)
$300,000
$400,000
Sir’s Net Income
80,000
60,000
The only intercompany transaction between Pit and Sir during 2011 and 2012 was the January 1, 2011, sale of land. The land had a book value of $20,000 and was sold intercompany for $30,000, its appraised value at the time of sale.
1. Assume that the land was sold by Pit to Sir and that Sir still owns the land at December 31, 2012.
a Calculate controlling share of consolidated net income for 2011 and 2012.
b Calculate noncontrolling interest share for 2011 and 2012.
2. Assume that the land was sold by Sir to Pit and Pit still holds the land at December 31, 2012.
a Calculate controlling share of consolidated net income for 2011 and 2012.
b Calculate noncontrolling interest share for 2011 and 2012.
Journal entries and consolidated income statement (downstream sale of building)
Sal is a 90 percent owned subsidiary of Pig Corporation, acquired at book value several years ago. Comparative separate company income statements for the affiliates for 2011 are as follows:
Pig Corporation
Sal Corporation
Sales
$1,500,000
$700,000
Income from Sal
108,000
—
Gain on building
30,000
—
Income credits
1,638,000
700,000
Cost of sales
1,000,000
400,000
Operating expenses
300,000
150,000
Income debits
1,300,000
550,000
Net income
$ 338,000
$150,000
On January 5, 2011, Pig sold a building with a 10 year remaining useful life to Sal at a gain of $30,000. Sal paid dividends of $100,000 during 2011.
REQUIRED
1. Reconstruct the journal entries made by Pig during 2011 to account for its investment in Sal. Explanations of the journal entries are required.
2. Prepare a consolidated income statement for Pig Corporation and Subsidiary for 2011.
Pun Corporation owns 100 percent of Sir Corporation’s common stock. On January 2, 2011, Pun sold to Sir for $40,000 machinery with a carrying amount of $30,000. Sir is depreciating the acquired machinery over a fiveyear life by the straight line method. The net adjustments to compute 2011 and 2012 consolidated income before income tax would be an increase (decrease) of:
Consolidated income statement (sale of asset sold upstream 2 years earlier)
A summary of the separate income of Pod Corporation and the net income of its 75 percent owned subsidiary, Sev Corporation, for 2011 is as follows:
Pod
Sev
Sales
$500,000
$300,000
Gain on sale of machinery
10,000
Cost of good sold
(200,000)
(130,000)
Depreciation expense
(50,000)
(30,000)
Other expenses
(80,000)
(40,000 )
Separate income (excludes
investment income)
$180,000
$100,000
Sev Corporation sold machinery with a book value of $40,000 to Pod Corporation for $65,000 on January 2, 2009. At the time of the intercompany sale, the machinery had a remaining useful life of five years. Pod uses straight line depreciation. Pod used the machinery until December 28, 2011, when it was sold to another entity for $36,000.
REQUIRED: Prepare a consolidated income statement for Pod Corporation and Subsidiary for 2011.
Investment income from 40 percent investee (upstream and downstream sales)
Pep Corporation owns 40 percent of the outstanding voting stock of Sat Corporation, acquired for $100,000 on July 1, 2011, when Sat’s common stockholders’ equity was $200,000. The excess of investment fair value over book value acquired was due to valuable patents owned by Sat that were expected to give Sat a competitive advantage until July 1, 2016.
Sat’s net income for 2011 was $40,000 (for the entire year), and for 2012, Sat’s net income was $60,000. Pep’s December 31, 2011 and 2012, inventories included unrealized profit on goods acquired from Sat in the amounts of $4,000 and $6,000, respectively. At December 31, 2011, Pep sold land to Sat at a gain of $2,000. This land is still owned by Sat at December 31, 2012.
REQUIRED
1. Compute Pep’s investment income from Sat for 2011 on the basis of a one line consolidation.
2. Compute Pep’s investment income from Sat for 2012 on the basis of a one line consolidation.
Upstream sale of equipment, noncontrolling interest
Pan Corporation has an 80 percent interest in Sip Corporation, its only subsidiary. The 80 percent interest was acquired on July 1, 2011, for $400,000, at which time Sip’s equity consisted of $300,000 capital stock and $100,000 retained earnings. The excess of fair value over book value was assigned to buildings with a 20 year remaining useful life.
On December 31, 2013, Sip sold equipment with a remaining useful life of four years to Pan at a gain of $20,000. Pan Corporation had separate income for 2013 of $500,000 and for 2014 of $600,000. Income and retained earnings data for Sip Corporation for 2013 and 2014 are as follows:
2013
2014
Retained earnings January 1
$150,000
$200,000
Add: Net income
100,000
110,000
Deduct: Dividends
50,000
60,000
Retained earnings December 31
$200,000
$250,000
REQUIRED
1. Compute Pan Corporation’s income from Sip, net income, and consolidated net income for each of the years 2013 and 2014.
2. Compute the correct balances of Pan’s investment in Sip at December 31, 2013 and 2014, assuming no changes in Sip’s outstanding stock since Pan acquired its interest.
Inventory items of parent capitalized by subsidiary
Ped Industries manufactures heavy equipment used in construction and excavation. On January 3, 2011, Ped sold a piece of equipment from its inventory that cost $180,000 to its 60 percent owned subsidiary, Spa Corporation, at Ped’s standard price of twice its cost. Spa is depreciating the equipment over six years using straight line depreciation and no salvage value.
REQUIRED
1. Determine the net amount at which this equipment will be included in the consolidated balance sheets for Ped Industries and Subsidiary at December 31, 2011 and 2012.
2. Ped accounts for its investment in Spa as a one line consolidation. Prepare the consolidation workpaper entries related to this intercompany sale that are necessary to consolidate the financial statements of Ped and Spa at December 31, 2011 and 2012.
The Department of Taxation of one state is developing a new computer system for processing state income tax returns of individuals and corporations. The new system features direct data input and inquiry capabilities. Identification of taxpayers is provided by using the Social Security numbers of individuals and federal identification numbers for corporations. The new system should be fully implemented in time for the next tax season. The new system will serve three primary purposes:
• Data will be input into the system directly from tax returns through computer terminals located at the central headquarters of the Department of Taxation.
• The returns will be processed using the main computer facilities at central headquarters.
The processing includes (1) verifying mathematical accuracy; (2) auditing the reasonableness of deductions, tax due, and so forth, through the use of edit routines as well as a comparison of the current year’s data with prior years’ data; (3) identifying returns that should be considered for audit by revenue agents of the department; and (4) issuing refund checks to taxpayers.
• Inquiry service will be provided to taxpayers on request through the assistance of Tax Department personnel at five regional offices. A total of 50 computer terminals will be placed at the regional offices.
A taxpayer will be able to determine the status of his or her return or to get information from the last three years’ returns by calling or visiting one of the department’s regional offices. The state commissioner of taxation is concerned about data security during input and processing over and above protection against natural hazards such as fires or floods.
This includes protection against the loss or damage of data during data input or processing, and the improper input or processing of data. In addition, the tax commissioner and the state attorney general have discussed the general problem of data confidentiality that may arise from the nature and operation of the new system. Both individuals want to have all potential problems identified before the system is fully developed and implemented so that the proper controls can be incorporated into the new system.
Requirements:
1. Describe the potential confidentiality problems that could arise in each of the following three areas of processing and recommend the corrective action(s) to solve the problems:
(a) data input, (b) processing of returns, (c) data inquiry.
2. The State Tax Commission wants to incorporate controls to provide data security against he loss, damage, or improper input or use of data during data input and processing.
Identify the potential problems (outside of natural hazards such as fires or floods) for which the Department of Taxation should develop controls, and recommend possible control procedures for each problem identified.
Listed below are 12 internal control procedures or requirements for the expenditure cycle (purchasing, payroll, accounts payable, and cash disbursements) of a manufacturing enterprise.
For each of the following, identify the error or misstatement that would be prevented or detected by its use.
a. Duties segregated between the cash payments and cash receipts functions
b. Signature plates kept under lock and key
c. The accounting department matches invoices to receiving reports or special authorizations
before payment
d. All checks mailed by someone other than the person preparing the payment voucher
e. The accounting department matches invoices to copies of purchase orders
f. Keep the blank stock of checks under lock and key
g. Use imprest accounts for payroll
h. Bank reconciliations performed by someone other than the one who writes checks and handles cash
i. Use a check protector
j. Periodically conduct surprise counts of cash funds
k. Orders placed with approved vendors only
l. All purchases made by the purchasing department
Rogers, North, & Housour, LLC is a large, regional CPA firm. There are 74 employees at their Glen Allen, SC office. The administrative assistant at this office approached Mr. Rogers, one of the partners, to express her concerns about the inventory of miscellaneous supplies (e.g., pens, pencils, paper, floppy disks, and envelopes) that this office maintains for its clerical workers.
The firm stores these supplies on shelves at the back of the office facility, easily accessible to all company employees.
The administrative assistant, Sandra Collins, is concerned about the poor internal control over these office supplies. She estimates that the firm loses about $350/month due to theft of supplies by company employees. To reduce this monthly loss, Sandra recommends a separate room to store these supplies, and that a company employee be given full time responsibility for supervising the issuance of the supplies to those employees with a properly approved requisition. By implementing these controls, Sandra believes this change might reduce the loss of supplies from employee misappropriation to practically zero.
a. If you were Mr. Rogers, would you accept or reject Sandra’s control recommendations?
Explain why or why not.
b. Identify additional control procedures that the firm might implement to reduce the monthly loss from theft of office supplies.
Ron Mitchell is currently working his first day as a ticket seller and cashier at the First Run Movie Theater. When a customer walks up to the ticket booth, Ron collects the required admission charge and issues the movie patron a ticket. To be admitted into the theater, the customer then presents his or her ticket to the theater manager, who is stationed at the entrance. The manager tears the ticket in half, keeping one half for himself and giving the other half to the customer.
While Ron was sitting in the ticket booth waiting for additional customers, he had a ‘‘brilliant’’ idea for stealing some of the cash from ticket sales. He reasoned that if he merely pocketed some of the cash collections from the sale of tickets, no one would ever know. Because approximately 300 customers attend each performance, Ron believed that it would be difficult for the theater manager to keep a running count of the actual customers entering the theater. To further support his reasoning, Ron noticed that the manager often has lengthy conversations with patrons at the door and appears to make no attempt to count the actual number of people going into the movie house.
a. Will Ron Mitchell be able to steal cash receipts from the First Run Movie Theater with his method and not be caught? Explain.
b. If you believe he will be caught, explain how his stealing activity will be discovered.
The Palmer Company manufactures various types of clothing products for women. To accumulate the costs of manufacturing these products, the company’s accountants have established a computerized cost accounting system. Every Monday morning, the prior week’s production cost data are batched together and processed. One of the outputs of this processing function is a production cost report for management that compares actual production costs to standard production costs, and computes variances from standard. Management focuses on the significant variances as the basis for analyzing production performance.
Errors sometimes occur in processing a week’s production cost data. The cost of the reprocessing work on a week’s production cost data is estimated to average about $12,000.
The company’s management is currently considering the addition of a data validation control procedure within its cost accounting system that is estimated to reduce the risk of the data errors from 16% to 2%, and this procedure is projected to cost $800/week.
a. Using these data, perform a cost benefit analysis of the data validation control procedure that management is considering for its cost accounting system.
b. Based on your analysis, make a recommendation to management regarding the data validation control procedure.
Gayton Menswear (Risk Assessment and Control Procedures)
The Gayton Menswear company was founded by Fred Williams in 1986 and has grown steadily over the years. Fred now has 17 stores located throughout the central and northern parts of the state. Because Fred was an accounting major in college and worked for a large regional CPA firm for 13 years prior to opening his first store, he places a lot of value on internal controls. Further, he has always insisted on a state of the art accounting system that connects all of his stores’ financial transactions and reports.
Fred employs two internal auditors who monitor internal controls and also seek ways to improve operational effectiveness. As part of the monitoring process, the internal auditors take turns conducting periodic reviews of the accounting records. For instance, the company takes a physical inventory at all stores once each year and an internal auditor oversees the process. Chris Domangue, the most senior internal auditor, just completed a review of the accounting records and discovered several items of concern. These were:
• Physical inventory counts varied from inventory book amounts by more than 5% at two of the stores. In both cases, physical inventory was lower.
• Two of the stores seem to have an unusually high amount of sales returns for cash.
• In 10 of the stores gross profit has dropped significantly from the same time last year.
• At four of the stores, bank deposit slips did not match cash receipts.
• One of the stores had an unusual number of bounced checks. It appeared that the same employee was responsible for approving each of the bounced checks.
• In seven of the stores, the amount of petty cash on hand did not correspond to the amount in the petty cash account.
Requirement
1. For each of these concerns, identify a risk that may have created the problem.
2. Recommend an internal control procedure to prevent the problem in the future.
Cuts n Curves Athletic Club (Analyzing Internal Controls)
The Cuts n Curves Athletic Club is a state wide chain of full service fitness clubs that cater to the demographics of the state (about 60% of all adults are single). The clubs each have an indoor swimming pool, exercise equipment, a running track, tanning booths, and a smoothie caf´e for after workout refreshments. The Club in Rosemont is open seven days a week, from 6:00 a.m. to 10:00 p.m. Just inside the front doors is a reception desk where an employee greets patrons. Members must present their membership card to be scanned by the bar code reader, and visitors pay a $16 daily fee. When the employee at the desk collects cash for daily fees, he or she also has the visitor complete a waiver form. The employee then deposits the cash in a locked box and files the forms. At the end of each day the Club accountant collects the cash box, opens it, removes the cash, and counts it. The accountant then gives a receipt for the cash amount to the employee at the desk. The accountant takes the cash to the bank each evening. The next morning, the accountant makes an entry in the cash receipts journal for the amount indicated on the bank deposit slip.
Susan Richmond, the General Manager at the Rosemont Club, has some concerns about the internal controls over cash. However, she is concerned that the cost of additional controls may outweigh any benefits. She decides to ask the organization’s outside auditor to review the internal control procedures and to make suggestions for improvement.
Requirements:
1. Assume that you are the outside (staff) auditor. Your manager asks you to identify any weaknesses in the existing internal control system over cash admission fees.
2. Recommend one improvement for each of the weaknesses you identified.
Emerson Department Store (Control Suggestions to Strengthen a Payroll System)
As a recently hired internal auditor for the Emerson Department Store (which has approximately 500 employees on its payroll), you are currently reviewing the store’s procedures for preparing and distributing the weekly payroll. These procedures are as follows.
• Each Monday morning the managers of the various departments (e.g., the women’s clothing department, the toy department, and the home appliances department) turn in their employees’ time cards for the previous week to the accountant (Morris Smith).
• Morris then accumulates the total hours worked by each employee and submits this information to the store’s computer center to process the weekly payroll.
• The computer center prepares a transaction tape of employees’ hours worked and then processes this tape with the employees’ payroll master tape file (containing such things as each employee’s social security number, exemptions claimed, hourly wage rate, year to date gross wages, FICA taxes withheld, and union dues deducted).
• The computer prints out a payroll register indicating each employee’s gross wages, deductions, and net pay for the payroll period.
• The payroll register is then turned over to Morris, who, with help from the secretaries, places the correct amount of currency in each employee’s pay envelope.
• The pay envelopes are provided to the department managers for distribution to their employees on Monday afternoon.
To date, you have been unsuccessful in persuading the store’s management to use checks rather than currency for paying the employees. Most managers that you have talked with argue that the employees prefer to receive cash in their weekly pay envelopes so that they do not have to bother going to the bank to cash their checks.
Requirements:
1. Assume that the store’s management refuses to change its current system of paying the employees with cash. Identify some control procedures that could strengthen the store’s current payroll preparation and distribution system.
2. Now assume that the store’s management is willing to consider other options for paying employees. What alternatives would you suggest?
What guidance or framework would you use to establish IT governance if you were a senior executive in a firm? If you were a mid level IT manager How as designing IT general controls? Jean & Joan Cosmetics has a complete line of beauty products for women and maintains a computerized inventory system. An eight digit product number identifies inventory items, of which the first four digits classify the beauty product by major category (hair, face, skin, eyes, etc.) and the last four digits identify the product itself. Identify as many controls as you can that the company might use to ensure accuracy in this eight digit number when updating its inventory balance file.
A manager who was responsible for identifying the appropriate application controls?
Identify one or more control procedures (either general or application controls, or both) that would guard against each of the following errors or problems.
a. Leslie Thomas, a secretary at the university, indicated that she had worked 40 hours on her regular time card. The university paid her for 400 hours worked that week.
b. The aging analysis indicated that the Grab and Run Electronics Company account was so far in arrears that the credit manager decided to cut off any further credit sales to the company until it cleared up its account. Yet, the following week, the manager noted that three new sales had been made to that company—all on credit.
c. The Small Company employed Mr. Fineus Eyeshade to perform all its accounts receivable data processing. Mr. Eyeshade’s 25 years with the company and his unassuming appearance helped him conceal the fact that he was embezzling cash collections from accounts receivable to cover his gambling losses at the racetrack.
d. The Blue Mountain Utility Company was having difficulty with its customer payments. The payment amounts were entered directly onto a terminal, and the transaction file thus created was used to update the customer master file. Among the problems encountered with this system were the application of customer payments to the wrong accounts and the creation of multiple customer master file records for the same account.
e. The Lands ford brothers had lived in Center County all their lives. Ben worked for the local mill in the accounts payable department, and Tom owned the local hardware store. The sheriff couldn’t believe that the brothers had created several dummy companies that sold fictitious merchandise to the mill. Ben had the mill pay for this merchandise in its usual fashion, and he wrote off the missing goods as ‘‘damaged inventory.’’
Identify one or more control procedures (either general or application controls, or both) that would guard against each of the following errors or problems.
a. A bank deposit transaction was accidentally coded with a withdrawal code.
b. The key entry operator keyed in the purchase order number as a nine digit number instead of an eight digit number.
c. The date of a customer payment was keyed 2001 instead of 2010.
d. A company employee was issued a check in the amount of $135.65 because he had not worked a certain week, but most of his payroll deductions were automatic each week.
e. A patient filled out her medical insurance number as 123465 instead of 123456.
f. An applicant for the company stock option plan filled out her employee number as 84 7634 21. The first two digits are a department code. There is no department 84.
g. A high school student was able to log onto the telephone company’s computer as soon as he learned what telephone number to call.
h. The accounts receivable department sent 87 checks to the computer center for processing. No one realized that one checkwas dropped along theway and that the computer therefore processed only 86 checks.
Bristol Company has a high turnover rate among its employees. It maintains a very large computer system that supports approximately 225 networked PCs. The company maintains fairly extensive databases regarding its customers. These databases include customer profiles,
Application
Field Name
Field Length
Example
Invoicing
Customer number
6
123456
Customer name
23
Al’s Department Store
Salesperson number
3
477
Invoice number
6
123456
Item catalog number
10
9578572355
Quantity sold
8
13
Unit price
7
10.50
Total price
12
136.50
Salesperson activity
Salesperson number
3
477
Salesperson name
20
Kathryn Wilson
Store department number
8
10314201
Week’s sales volume
12
1043.75
Regular hours worked
5
39.75
Overtime hours worked
4
0.75
Inventory control
Inventory item number
10
9578572355
Item description
15
Desk lamp
Unit cost
7
8.50
Number of units dispersed this week
4
14
Number of units added to inventory
4
20
Purchasing
Vendor catalog number
12
059689584996
Item description
18
Desk pad
Vendor number
10
8276110438
Number of units ordered
7
45
Price per unit
7
8.75
Total cost of purchase
14
313.75
past purchasing patterns, and prices charged. Recently, Bristol Company has been having major problemswith competitors. It appears that one competitor seems to be very effective at taking away the company’s customers. This competitor has visited most of Bristol Company’s customers, and identical products have been offered to these customers at lower prices in every case.
a. What do you feel is the possible security problem at Bristol Company?
Simmons Corporation (Problems with Computer based Information System) Simmons Corporation is a multi location retailing concern with stores and warehouses throughout the United States. The company is in the process of designing a new, integrated, computer based information system. In conjunction with the design of the new system, the management of the company is reviewing the data processing security to determine what new control features should be incorporated. Two areas of specific concern are (1) confidentiality of company and customer records, and (2) safekeeping of computer equipment, files, and data processing center facilities.
The new information system will be employed to process all company records, which include sales, purchases, the financial budget, customer, creditor, and personnel information. The stores and warehouses will be linked to the main computer at corporate headquarters by a system of remote terminals. This will permit data to be communicated directly to corporate headquarters or to any other location from each location within the terminal network.
At the current time, certain reports have restricted distribution because not all levels of management need to receive them or because they contain confidential information. The introduction of remote terminals in the new system may provide access to these restricted data by unauthorized personnel. Simmons’s top management is concerned that confidential information may become accessible and be used improperly.
The company’s top management is also concerned with potential physical threats to the system, such as sabotage, fire damage, water damage, or power failure. Should any of these events occur in the current system and cause a computer shutdown, adequate backup records are available so that the company could reconstruct necessary information at a reasonable cost on a timely basis. However, with the new system, a computer shutdown would severely limit company activities until the system could become operational again.
Requirements:
1. Identify and briefly explain the problems Simmons Corporation could experience with respect to the confidentiality of information and records in the new system.
2. Recommend measures Simmons Corporation could incorporate into the new system that would ensure the confidentiality of information and records in this new system.
3. What safeguards can Simmons Corporation develop to provide physical security for its (a) computer equipment, (b) files, and (c) data processing center facilities?
Bad Bad Benny: A True Story (Identifying Controls for a System)17 In the early twentieth century, there was an ambitious young man named Arthur who started working at a company in Chicago as a mailroom clerk. He was a hard worker and very smart, eventually ending up as the president of the company, the James H. Rhodes Company. The firm produced steel wool and harvested sea sponges in Tarpon Springs, Florida for household and industrial use. The company was very successful, and Arthur decided that the best way to assure the continued success of the company was to hire trusted family members for key management positions—because you can always count on your family. Arthur decided to hire his brother Benny to be his Chief Financial Officer (CFO), and placed other members of the family in key management positions. He also started his eldest son, Arthur Junior (an accountant by training) in a management training program, hoping that he would eventually succeed him as president.
As the company moved into the 1920s, Benny was a model employee; he worked long hours, never took vacations, and made sure that he personally managed all aspects of the cash function. For example, he handled the entire purchasing process—from issuing purchase orders through the disbursement of cash to pay bills. He also handled the cash side of the revenue process by collecting cash payments, preparing the daily bank deposits, and reconciling the monthly bank statement.
The end of the 1920s saw the United States entering its worst Depression since the beginning of the Industrial Age. Because of this, Arthur and other managers did not get raises, and in fact, took pay cuts to keep the company going and avoid lay offs. Arthur and other top management officials made ‘‘lifestyle’’ adjustments as well—e.g., reducing the number of their household servants and keeping their old cars, rather than purchasing new ones. Benny, however, was able to build a new house on the shore of Lake Michigan and purchased a new car. He dressed impeccably and seemed impervious to the economic downturn. His family continued to enjoy the theatre, new cars, and nice clothes. required for publicly held companies, and the Securities and Exchange Commission (SEC) had not yet been formed (that would happen in 1933–1934). Jim the accountant was eventually able to determine that Benny had diverted company funds to himself by setting up false vendors and having checks mailed to himself. He also diverted some of the cash payments received from customers and was able to hide it by handling the bank deposits and the reconciliation of the company’s bank accounts. Eventually, Jim etermined that Benny had embezzled about $500,000 (in 1930 dollars).
If we assume annual compounding of 5% for 72 years, the value in today’s dollars would be about $17.61 million! Arthur was furious, and sent Benny ‘‘away.’’ Arthur sold most of his personal stock holdings in the company to repay Benny’s embezzlement, which caused him to lose his controlling interest in the company, and eventually was voted out of office by the Board of Directors.
Jim, the accountant, wrote a paper about his experience with Benny (now referred to as ‘‘Bad Bad Benny’’ by the family). Jim’s paper contributed to the increasing call for required annual external audits for publicly held companies. Arthur eventually reestablished himself as a successful stockbroker and financial planner. Benny ‘‘disappeared’’ and was never heard from again.
Requirements:
1. Identify the control weaknesses in the revenue and purchasing processes.
2. Identify any general controls Arthur should have implemented to help protect the company.
Sar Corporation, a 90 percent owned subsidiary of Pan Corporation, buys half of its raw materials from Pan. The transfer price is exactly the same price as Sar pays to buy identical raw materials from outside suppliers and the same price as Pan sells the materials to unrelated customers. In preparing consolidated statements for Pan Corporation and Subsidiary:
a The intercompany transactions can be ignored because the transfer price represents arm’s length bargaining
b Any unrealized profit from intercompany sales remaining in Pan’s ending inventory must be offset against the unrealized profit in Pan’s beginning inventory
c Any unrealized profit on the intercompany transactions in Sar’s ending inventory is eliminated in its entirety
d Only 90 percent of any unrealized profit on the intercompany transactions in Sar’s ending inventory is eliminated
Spa Corporation is a 90 percent owned subsidiary of Ply Corporation, acquired on January 1, 2011, at a price equal to book value and fair value. Ply accounts for its investment in Spa using the equity method of accounting.
The only intercompany transactions between the two affiliates in 2011 and 2012 are as follows:
2011
Ply sold inventory items that cost $400,000 to Spa for $500,000. One fourth of this merchandise remains unsold at December 31, 2011
2012
Ply sold inventory items that cost $600,000 to Spa for $750,000. One third of this merchandise remains unsold at December 31, 2012
At December 31, 2012, Ply’s Investment in Spa account:
a Will equal its underlying equity in Spa
b Will be $25,000 greater than its underlying equity in Spa
c Will be $50,000 less than its underlying equity in Spa
d Will be $25,000 less than its underlying equity in Spa
Par Corporation owns 80 percent of Sit’s common stock. During 2011, Par sold Sit $750,000 of inventory on the same terms as sales made to third parties. Sit sold 100 percent of the inventory purchased from Par in 2011. The following information pertains to Sit’s and Par’s sales for 2011:
Par
Sit
Sales
$3,000,000
$2,100,000
Cost of Sales
1,200,000
1,050,000
$1,800,000
$1,050,000
What amount should Par report as cost of sales in its 2011 consolidated income statement?
1. The separate incomes of Pil Corporation and Sil Corporation, a 100 percent owned subsidiary of Pil, for 2012 are $2,000,000 and $1,000,000, respectively. Pil sells all of its output to Sil at 150 percent of Pil’s cost of production. During 2011 and 2012, Pil’s sales to Sil were $9,000,000 and $7,000,000, respectively. Sil’s inventory at December 31, 2011, included $3,000,000 of the merchandise acquired from Pil, and its December 31, 2012, inventory included $2,400,000 of such merchandise. Assume Sil sells the inventory purchased from Pil in the following year. A consolidated income statement for Pil Corporation and Subsidiary for 2012 should show controlling interest share of consolidated net income of:
Pid Corporation owns an 80 percent interest in Sed Corporation and at December 31, 2011, Pid’s investment in Sed on an equity basis was equal to 80 percent of Sed’s stockholders’ equity. During 2012, Sed sells merchandise to Pid for $200,000, at a gross profit to Sed of $40,000. At December 31, 2012, half of this merchandise is included in Pid’s inventory. Separate incomes for Pid and Sed for 2012 are summarized as follows:
Par Corporation owns an 80 percent interest in Sel Corporation acquired several years ago. Sel regularly sells merchandise to its parent at 125 percent of Sel’s cost. Gross profit data of Par and Sel for 2012 are as follows:
Par
Sel
Sales
$1,000,000
$800,000
Cost of goods sold
800,000
640,000
Gross profit
$ 200,000
$160,000
During 2012, Par purchased inventory items from Sel at a transfer price of $400,000. Par’s December 31, 2011 and 2012, inventories included goods acquired from Sel of $100,000 and $125,000, respectively. Assume Par sells the inventory purchased from Sel in the following year.
1. Consolidated sales of Par Corporation and Subsidiary for 2012 were:
Linda Stanley and State University (Legacy Systems to an ERP)
Linda Stanley is the Vice President for Computing and Information Services at State University (SU), a large, urban university that has experienced a 3% growth in enrollments every year for more than a decade. The university how has almost 27,000 students, just under 12,000 faculty and staff, nearly $1 billion in revenues, and can currently accommodate 5,000 students in residence halls. In addition, the state legislature has financially supported infrastructure development for SU to help accommodate the sustained growth in enrollments. The campus has significantly and positively impacted the visual appearance and the economy of the city where it is located.
The number of legacy systems across campus has adequately served SU in the past, but with the growth in enrollments, the university has also increased the number of faculty, support staff, and services. Currently, the core applications at SU include Blackboard, Lotus Domino, web self service, and legacy administrative applications for all other purposes. In recent meetings with the Provost of the university, Linda and her staff have responded to a number of concerns and problems from the Deans of academic departments on campus, as well as a number of the support departments, such as payroll, student financial aid, and HR. As Linda pointed out to the Provost and Deans, universities have unique technology challenges, such as an open technology environment 24 hours a day, 7 days a week, and that is 365 days a year, not just when school is in session. She also mentioned that SU has other factors that impact the effectiveness of IT services, such as their urban location and the rapid growth of the university over the past decade. Linda reminded the Provost that she and her staff were diligently working on a number of major technology initiatives for SU, including network reengineering, email consolidation, telephony modernization, helpdesk/customer care redesign, and classroom technology.
Last week, the Provost called Linda and asked her to meet him at the coffee shop in the Student Commons—he wanted to ask her opinion about a technology issue. In the discussion, the Provost reflected on the growth of SU and wondered aloud if the university might be at a stage of maturity where they really should consider the entire technology infrastructure of the university. He pointedly asked Linda what she thought—should they consider purchasing an ERP? Of course, Linda was not prepared to discuss this question in great depth and told the Provost that she would do some research and make an appointment in a couple of weeks to have a more meaningful discussion of the issue. When she returned to her office, she scheduled a meeting with her staff for the next day so that she could go over the Provost’s request with them and then assign different parts of this research project to them. Linda reminded everyone that they had a limited amount of time to pull the information together, and that she needed to deliver the Executive Summary to the Provost in the next few weeks.
Requirements:
NOTE: Some Internet research is required to properly respond to the following case questions.
1. Search the Internet and find ERP solutions that might be suitable for a university, such as SU. What are the primary modules for this type of ERP? Briefly describe the functions of each module.
2. What business processes would most likely be affected if SU implemented an ERP?
3. Because this is a state university, the Board of Visitors and the State Legislature will need to see a report on the expected costs and benefits of an ERP, both tangible and intangible. Although you don’t have any dollar amounts, identify some typical costs and benefits that Linda should include in her executive summary.
4. Should Linda use consultants? If so, what types of support should she expect from them?
5. Search the Internet—can you find an expected timeline for implementation of an ERP at a university? Do you think Linda should include a possible timeline in her report to the Provost? Why orwhy not?
Springsteen, Inc. (Enterprise Resource Planning System)
Springsteen, Inc. is a large furnituremanufacturer, located in Asbury Park, New Jersey. They sell to furniture wholesalers across the United States and internationally. Revenues last year exceeded $500 million. Currently, the company has over 100 legacy information systems.
Recently Wendy Stewart, the Chief Information Officer (CIO), met with Bruce Preston, Chief Financial Officer (CFO), and CEO Patricia Fisher, to discuss some technical problems occurring in these systems. Patricia noted that several competitors have implemented ERP systems and she wondered if maybe it wasn’t time for Springsteen to do the same. Wendy and Bruce agreed, with some reservations. Each had heard that Hershey couldn’t ship its candy bars one Halloween because of problems with an SAP implementation. They’d heard other horror stories as well. Bruce thought maybe a Best of Breed solution would be less costly. Patricia suggested that they all meet with a consulting team from Warren Williams (WW), a global consulting firm.
The meeting takes place the next week. Present are: Wendy Stewart—CIO;
Bruce Preston—CFO; Patricia Fisher—CEO; Clarence Martin—Analyst, WW; Rosalita Jones—Analyst, WW; and Steve Johnson—Analyst, WW.
Patricia opens the meeting. Her role is to manage the discussion and look for a decision.
She talks aboutwhat she thinks an ERPmight be able to do in terms of providing competitive advantages, particularly with respect to business processes.
Bruce discusses what the dollar costs and benefits of an ERP are and the expected effect on the bottom line.
Wendy explains the architecture of an ERP and explains the technical issues associated with implementing these systems.
Clarence tries to sell the project any way he can. He also tells the company representatives what his firm will do for them, the expected cost of the system, and the implementation schedule to be expected.
Rosalita explains the potential risks and benefits of such a system for Springsteen, focusing on the benefits.
Steve describes the functionality of an ERP—what the various modules are, etc. He also talks about options for extending the ERP through the Internet to integrate the supply chain.
Requirements:
This case is designed for in class role play. Each actor and assigned support staff have 20 minutes to prepare for the meeting. The support staff are the other class members. During the meeting one support staff member for each role will capture the main points brought out during the meeting, relative to that role. For example, a scribe for Wendy Stewart would make a list of every technical issue brought out in the meeting. The meeting is scheduled to last approximately one half hour.
Comment on each of the following scenarios in light of chapter aterials. Hint: use the references at the end of this chapter to help you. a. A legitimate student calls the computer help desk from her cell phone because she has forgotten her password to the university system. The ‘‘tech”” on duty refuses to give it to her as a matter of university policy. The student is unable to complete her assignment and proceeds to file a formal complaint against the university. b. An employee at a building supply company is caught downloading pornographic materials to his office computer. He is reprimanded by his boss, asked to remove the offending materials, and told never do it again. The employee refuses on the grounds that (1) there is no company policy forbidding these activities, (2) he performed all his downloads during his lunch breaks, (3) his work reviews indicate that he is performing ‘‘above average,”” and (4) the discoveries themselves were performed without a search warrant and therefore violate his right to privacy. c. The local community college installed a new, campus wide local area network that requires all staff members to enter a login name and password. Users can choose their own passwords. Some pick the names of their pets or spouses as passwords, while others tape their passwords to their computer monitors to help remember them. d. An employee in a hospital was hardly ever at his desk, but almost always reachable through his cell phone. When the department replaced his old computer with a new one, his boss scanned the old hard drive and made the startling discovery that this employee had a full time second job as a beer distributor. e. A routine audit of the computer payroll records of the local manufacturing plant reveals that the address of over 20 employees in different departments is the same empty lot in the city. f. An analysis of online bidding on eBay reveals that one seller has bid on several of his own merchandise in an effort to increase the final sales price of his items. g. A retailer sues a web hosting company when it discovers that the employees of the web company have been visiting sites on which the retailer advertises. The retailer pays a fee of $1 every time someone clicks on these advertising links.
(Library or Online Journal Research) Newspapers and such journals as Datamation and Computerworld are prime sources of computer crime articles. Find a description of a computer crime not already discussed in this chapter and prepare an analysis of the crime similar to the ones in. 10 14. Recall that the salami technique means using a computer to skim a small amount of money from hundreds or thousands of accounts, and then diverting the proceeds for personal gain. Suppose that a computer programmer uses this technique to skim a penny from each customer”s account at a small bank. Over the course of three months, he takes $200,000 and is never caught. Assuming that this hacker took only one penny per month from each customer, how many accounts did the bank have? If the bank had 100,000 accounts and the hacker stole one penny from each account”s interest (which was computed daily), how much could the hacker steal in three months?
What company policies or procedures would you recommend to prevent each of the following activities?
a. A clerk at the Paul Yelverton Company faxes a fictitious sales invoice to a company that purchases a large quantity of goods from it. The clerk plans to intercept that particular payment check and pocket themoney.
b. The bookkeeper at a construction company has each of the three owners sign a different paycheck for her. Each check is drawn from a separate account of the company.
c. A clerk in the human relations department creates a fictitious employee in the personnel computer file. When this employee’s payroll check is received for distribution, the clerk takes and cashes it.
d. A clerk in the accounts receivable department steals $250 in cash from a customer payment, then prepares a computer credit memo that reduces the customer’s account balance by the same amount.
e. A purchasing agent prepares an invoice for goods received from a fictitious supplier. She sends a check for the goods to this supplier, in care of her mother’s post office box.
f. A hacker manages to break into a company’s computer system by guessing the password of his friend—Champ, the name of the friend’s dog.
g. An accounts receivable clerk manages to embezzle more than $1 million from the company by diligently lapping the accounts every day for three consecutive years.
h. The company’s local area network administrator traces a virus to an individual who accidentally introduced it when he downloaded a computer game from the Internet.
i. A clerk at a medical lab recognizes the name of an acquaintance as one of those patients whose lab tests are ‘‘positive’’ for an infectious disease. She mentions it to a mutual friend, and before long, the entire town knows about it.
ACFE Compensation Guide for Anti fraud Professionals, which is available at no charge at: Based on this resource, answer the following questions:
a. How many people participated in the 2008 survey?
b. What is the median total compensation for certified forensic examiners (CFEs) and for non CFEs?
c. What is the modal years of experience for CFEs and for non CFEs?
d. What is the modal highest level of education completed for CFEs and for non CFEs?
e. What is the median total annual compensation for females and males holding CFE certification, and for CFEs versus non CFEs? How can you explain these differences?
f. Do fraud examiners earn more if they work in one type of industry (e.g., healthcare) than another? How about internal auditors?
g. Do anti fraud practitioners tend to earn more in some areas of the country than in others? If so, what explains these differences?
Ashley Company (Diskless PC System and Security Threats)
To address the need for tighter data controls and lower support costs, the Ashley Company has adopted a new diskless PC system. It is little more than a mutilated personal computer described as a ‘‘gutless wonder.’’ The basic concept behind the diskless PC is simple: Security, Privacy, and Ethics for Accounting Information Systems LAN server based file system of high powered diskless workstations is spread throughout a company and connected with a central repository or mainframe. The network improves control by limiting user access to company data previously stored on desktop hard disks.
Because the user can destroy or delete only the information currently on the screen, an organization’s financial data are better protected from user instigated catastrophes. The diskless computer also saves money in user support costs by distributing applications and upgrades automatically, and by offering online help.
Requirements:
1. What threats in the information processing and storage system do the diskless PC minimize?
2. Do the security advantages of the new system outweigh potential limitations? Discuss.
Mark Goodwin Resort (A Valuable Information Computer Offense)
The Mark Goodwin Resort is an elegant summer resort located in a remote mountain setting. Guests visiting the resort can fish, hike, go horseback riding, swim in one of three hotel pools, or simply sit in one of the many lounge chairs located around the property and enjoy the spectacular scenery. There are also three dining rooms, card rooms, nightly movies, and live weekend entertainment.
The resort uses a computerized system to make room reservations and bill customers.
Following standard policy for the industry, the resort also offers authorized travel agents a 10% commission on room bookings. Each week, the resort prints an exception report of bookings made by unrecognized travel agents. However, the managers usually pay the commissions anyway, partly because they don’t want to anger the travel agencies and partly because the computer file that maintains the list of authorized agents is not kept up to date.
Although management has not discovered it, several employees now exploit these facts to their own advantage. As often as possible, they call the resort from outside phones, pose as travel agents, book rooms for friends and relatives, and collect the commissions. The incentive is obvious: rooms costing as little as $100 per day result in payments of $10 per day to the ‘‘travel agencies’’ that book them. The scam has been going on for years, and several guests now book their rooms exclusively through these employees, finding these people particularly courteous and helpful.
Requirements:
1. Would you say this is a ‘‘computer crime?’’ Why or why not?
2. What controls would you recommend that would enable the resort’s managers to thwart such offenses?
3. How does the matter of ‘‘accountability’’ (tracing transactions to specific agencies) affect the problem?
If you have not done so already, use the Customers table in the BSN database that accompanies this book and the directions in this chapter to create Make sure that you reformat the default positions of the various textboxes as shown in the. Now add a subform of customer invoices to your form so that it. To do this, open your initial form in design view, select the subform tool from the Toolbox Controls, and add a subform. Answer the questions for the Subform Wizard to select the Invoices table. When you have completed these tasks, also do the following:
a. Use the navigation bar of the main form to go to the last record in the Customers table. Print the form for this record.
b. Use the navigation bar of the main form to find a record with invoices. Then use the navigation bar of the subform to select a particular invoice. Which one did you select? Print this form.
a. Add a label in the heading portion of your form that contains the term ‘‘Prepared by:’’ and add your name. Print a single copy of your completed form.
b. Use the navigation bar at the bottom of your form. What is the first record? What is the last record?
c. Add a new record to this form with your name as the customer. Print a copy of this form.
d. Close your form, go to the Tables portion of the database, and open the Customers table in datasheet view (see Figure 6 2). Verify that your new record is there. Now, add a second record with your name again. Are you surprised that you can do this?
Listed below are several types of accounting data that might be coded. For each data item, recommend a type of code (mnemonic, sequence, block, or group) and support your choice.
a. Employee identification number on a computer file
b. Product number for a sales catalog
c. Inventory number for the products of a wholesale drug company
d. Inventory part number for a bicycle manufacturing company
e. Identification numbers on the forms waiters and waitresses use to take orders
f. Identification numbers on airline ticket stubs
g. Automobile registration numbers
h. Automobile engine block numbers
i. Shirt sizes for men’s shirts
j. Color codes for house paint
k. Identification numbers on payroll check forms
l. Listener identification for a radio station
m. Numbers on lottery tickets
n. Identification numbers on a credit card
o. Identification numbers on dollar bills
p. Passwords used to gain access to a computer
q. Zip codes
r. A chart of accounts for a department store
s. A chart of accounts for a flooring subcontractor
t. Shoe sizes
u. Identification number on a student examination
v. Identification number on an insurance policy purchase order event. Prepare a narrative to accompany the flowchart describing this purchase order event. Include in your narrative the source documents involved, the computerized data processing that takes place, data inputs used to prepare purchase orders, and the outputs prepared from the processing function.
The Caribbean Club is one of the Virgin Island’s hottest night spots. It’s a great place for locals to meet after work and relax with friends, it’s a popular destination for tourists who stay on the island, and it’s always on the list of fun entertainment choices for the crowds from the cruise ships that dock in the harbor.
The reason the Club is so popular with such a variety of customers is because the founder of the club, Ross Stewart, always has such innovative and visionary ideas that delight the patrons. For example, every night of the week the Club features different activities or shows, including beach volleyball, Caribbean shows with calypso singers, world class musicians who play steel drums, and other island delights.
Because Ross was a former accountant and auditor with one of the largest public accounting firms in New Zealand, he is very accustomed to brainstorming sessions to generate ideas and surface concerns. He brought this practice with him to the Caribbean and holds brainstorming sessions with his ‘‘club associates’’ (which is what he calls all of the employees at the club) once every month to identify new and novel ideas to increase the popularity and profitability of the club.
As youmight imagine, the patrons of a night club are there to relax and enjoy themselves.
Therefore, the associates thought it would be a great idea to somehow be able to recognize their regular patrons so that they wouldn’t have to trouble them with a bill every time a server came to their table with another round of drinks. After all, if the Club wanted these people to ‘‘feel like they were at home with friends’’, the patrons shouldn’t have to bother with trying to decide who owed what to pay the bill. What a nuisance!
So Ross and his associates came up with the idea to implant their regular customers with an implantable microchip. The idea was to make the chip ‘‘fun’’—to give it an elite status so that their regular patrons would want to be implanted. To dramatize the elite status of the chip, Ross decided that the Club would have a special area where only those with chips, the ‘‘VIPs’’, would be admitted. And of course, this area would have various exclusive services for these members. The chip would allow the VIPS to be ‘‘recognized’’ and to be able to pay for their food and drinks without any ID—they would simply pass by a reader and the Club would know who they are and their credit balance. Ross also wanted the information system supporting the chip to be a customer relationship management tool.
Requirements:
1. What do you think of this idea? That is, what are the advantages and disadvantages of this idea for the Caribbean Club?
2. If you were Ross, what information would you want the CRM to collect? Search the Internet to see if you can find a CRM software package that seems appropriate for the Club. Why did you select this particular software?
3. What are the advantages and disadvantages for the patrons?
4. If you were a passenger on a cruise ship, or staying at a resort on the island, would you get the chip implanted? Why or why not?
Larkin State University is a medium sized academic institution located in the Southeastern United States. The university employs about 250 full time faculty and 300 staff personnel. There are 12,000 students enrolled among the university’s four colleges.
The Purchase Process The university’s budget for purchases of equipment and supplies is about $25 million annually. Peter Reese is in charge of the Purchasing Department. He reports directly to the Vice President of Finance for the university. Pete supervises four purchasing clerks and three receiving personnel. The office is responsible for purchases of all equipment and supplies except for computer equipment and software, and plant purchases or additions.
The Payment Process The various departments across campus manually fill out hard copy purchase requisition forms when there is a need for equipment/supplies. Each department forwards these forms to the Purchasing Department. If the request is for computer equipment or software, the requisition is forwarded to the Department of Information Technology for action.
Purchase requisitions are assigned to one of the three purchasing clerks by department. For instance, one purchasing clerk makes purchases for all university departments beginning with the letters A through G (Accounting—Geology). Purchasing clerks check the requisition to make sure it is authorized and then consult the Approved Vendor Listing to find a supplier. The clerk may contact a supplier for pricing and product specification. Once this task is complete, the purchasing clerk enters the purchase requisition and vendor and price information into the computer system, which prints out a multiple part purchase order. Clerks send copies of the purchase order to Central Receiving, to the vendor, and to the Accounts Payable Department. (The university considered using EDI for its purchases, but chose not to adopt it due to the large number of vendors used.)
When Central Receiving receives an order, a receiving clerk consults the Purchase Order file to make sure the correct product and quantity have been delivered. The clerk also checks the product for damage. Central receiving does not accept any over shipments.
Receiving clerks forward accepted shipments to the adjacent warehouse for distribution to the appropriate department. Clerks file one copy of the Receiving Report, send one copy to the Purchasing Department, and forward a third copy to Accounts Payable.
George Vaughn is the Supervisor of Accounts Payable. Two accounting clerks report to him. He assigns invoices to them for payment based on vendor name. One clerk processes payments for vendors A–M and the other clerk handles payments to all vendors with names beginning with letters N–Z. The clerks match each vendor invoice with a copy of the receiving report and purchase order before entering it into the computer for payment by due date. There are often discrepancies among the three documents. This requires frequent phone calls to the vendor, the Receiving Department, or Purchasing for resolution. As a result, the company frequently makes payments late and loses out on cash discounts.
Requirements:
1. Identify the important business events that occur within Larkin’s purchase/payment process.
2. What changes would you suggest to the current process to take advantage of information technology?
Uptown Bucks (UB) is an off campus meal plan business in Oxford, Ohio. Students or their families buy debit cards with fixed amounts that they can use to purchase food at more than 18 local restaurants. Customers can buy the cards at UB’s office in the center of town, or they may purchase the cards online. The following paragraph describes the online card sale process.
A customer enters their credit card information online and then the amount of purchase. UB’s software automatically checks the card number to determine that it is a valid credit card number; for instance, there are certain digits that indicate Visa cards. The software displays an error message if the number is not valid. The usual cause of these errors is typographical. Once the customer completes the card order screen, the software sends the data in an encrypted form to UB’s host computer. Periodically, the UB accountant retrieves transactions from the server. This is done by clicking on the ‘‘Get Transactions’’ screen button. For each online transaction, the accountant then manually copies down the credit card number on a scrap of paper, walks across the office to the credit card machine, and keys in the credit card number, the amount, and the numerical portion of the address. The credit card software checks to see if the card is valid and charges it for the amount. The accountant next writes down the validation number, returns to the host computer, and enters it. She prints a receipt for the transaction and puts it in a file. The customer database now reflects the new customer. When a customer purchases a card off line with a credit card, the accountant swipes the card directly, checks its validity, charges the card, and then writes down the validation number and enters it in the host computer.
UB is considering the purchase of credit card software that can reside on the host computer and interact with their accounting software. The credit card software costs about $400. The credit card company rates are likely to increase by about. 5% because cards could no longer be swiped directly—all credit card purchases would need to go through the online software. The rate UB has to pay the credit card company is based on this mix. Credit card companies typically charge more if card numbers are punched rather than swiped because they have more chance of invalid transactions due to theft. It’s easier to steal a number than a card. Currently about half of UB’s sales transactions arise from online sales; the other half result from sales through the office.
Requirements:
1. Should UB buy the credit card software?
2. Use the skills you developed from Chapter 3 to develop a flowchart for UB’s online sales process.
3. What are the business risks associated with this process?
Hammaker Manufacturing I (AIS for New Manufacturing Firm)
Dick Hammaker has been fascinated with Corvette cars, especially convertibles, since he was a teenager. Dick grew up in Michigan and worked part time through his high school and college years at a car manufacturer, so he knew the business well. Not surprisingly, when he graduated from college he bought his first car, a used Corvette convertible, and became a member of the local Corvette Club of America. As an accounting graduate, Hammaker was hired by one of the large automobile manufacturers in Michigan and was selected for the ‘‘fast track’’ management training program. After five years, Hammaker decided to leave Michigan and start a specialty parts manufacturing company strictly for Corvettes. Before he even left Michigan, a potential customer contacted him—the repair shop was replacing the black convertible top on a 1967 Corvette that the owner was going to sell for $76,995!
Hammaker decided to locate his company, Hammaker Manufacturing Co. (HMC), in Northern Virginia because this is the site of the oldest Corvette Club of America. Dick knows he will need the appropriate technology to support his company, so he decided to focus on this aspect of his company prior to starting any production activities. His first action was to hire a CFO (Denise Charbonet) who could work with Lloyd Rowland (a software consultant) to determine the inputs and outputs needed for an AIS for the new company. Of particular concern is the data the AIS will need to collect regarding inventories. As Dick, Denise, and Lloyd know, inventory management will be a key factor for the success of HMC because Corvette cars are unique—parts are needed for these cars since the 1960s!
Dick believes that an AIS will give him the data and information needed for good decision making, especially to manage inventory investments. HMC’s ustomers are primarily Corvette specialty repair shops and they typically demand parts only as needed, but exactly when needed. Inventory can be very costly for HMC if they must stockpile many specialty parts to be able to quickly meet customer orders.
Hammaker knows from his work experience in Michigan that there are a number of costs associated with holding inventories (warehousing, obsolescence, and insurance costs)—money that could be put to better use elsewhere. Dick knows that he will need to buy raw materials from suppliers and hold raw materials inventories plus make to stock parts, or customers will find other parts suppliers. Denise and Lloyd meet to discuss the issues. They decide that they need to do two things. First, they need to determine what AIS software package would be best for the new company, one that is particularly focused on inventory control, or one with an inventory control module that would be well suited for HMC. Second, they need to decide what data elements they need to capture about each inventory item to optimize inventory management and control. Denise notes that though some inventory descriptors are easy to determine, such as item number, description, and cost, others are more difficult.
For instance, inventory on hand and inventory available for sale could be two different data items because some of the inventory on hand might be committed but not yet shipped.
Requirements:
1. Explain how an AIS could help HMC optimize inventory management and control.
2. What data elements should HMC include in the new AIS to describe each inventory item?
Hammaker Manufacturing II (Business Process Reengineering or Outsource) Implementation of a new AIS went smoothly, for the most part. It is 15 years later, and now HMC is interested in mapping a variety of their business processes to determine whether improvements can be made and whether business process reengineering should be considered. Hammaker asked Denise to work with the consulting firm analysts to determine the feasibility of these two options and also to consider the possibility of outsourcing. Denise does not know much about outsourcing and she is not sure which process (or processes) Dick might want to outsource. Denise discovers that a number of developing countries have the capacity and the labor to make the parts that HMC is currently producing, and at much cheaper prices. Further, Denise discovers that many companies are outsourcing and offshoring a number of processes that used to be accomplished by company employees. Denise makes a note to herself to check the number of employees in each of the following departments: HR, computer support, accounting, and janitorial services. She also decides to query the AIS to determine what performance measures are available to assess the efficiency and effectiveness of each of these departments. Denise places a call to Lloyd Rowland to discuss this issue with him.
HMC is not unionized, but Denise ponders the legal and social issues associated with outsourcing jobs, because many of the 365 employees at Hammaker Manufacturing have been with the company for well over a decade.
Requirements:
1. Identify tools that would help Denise and Rowland map HMC’s business processes.
Which processes do you think they should work on first? Why those processes?
2. Identify at least six reasons why companies choose to outsource or offshore a business process. Which of these reasons might Dick use to make his decision to outsource or to attempt BPR?
3. Is producing automotive parts a ‘‘core’’ business process for Hammaker manufacturing? Explain.
4. Do companies ever outsource ‘‘core’’ business processes? Search the Internet to see if you can find an example of a company or an industry that oursources core business processes. What are they? Why are they doing this?
5. What social or legal issues might Denise consider? Be specific and explain why these issues might be important to Hammaker manufacturing.
6. What would you recommend if you were one of the analysts at the consulting firm?
Hammaker Manufacturing III (Lean Production/Lean Accounting) HMC continues to be profitable. Although Denise and Lloyd Rowland mapped several business processes five years ago to determine whether HMC should work on process improvements or consider business process reengineering, they never really finished that effort, nor did HMC decide whether to outsource any processes. Hammaker still thinks that HMC could be more efficient and more profitable, but he’s not really sure how the company can achieve this ‘‘next level’’ of excellence. About a year ago, Denise started reading books and trade journals on the topics of business strategy, lean production, and lean manufacturing. So when Dick approached her regarding his intent to improve the company, she began to share with him some of the insights she had gained over the past year on business strategy and how their current AIS might not be capturing the most useful metrics for optimal decision making. Denise mentioned that the next Lean Accounting Summit will be in September and suggested that she and her three financial analysts go to the four day conference to gain a better understanding of lean production and accounting concepts to determine how they might be able to better support HMC and Dick’s goal of improving the company.
Requirements:
1. If Dick decided to adopt the business strategy of lean production, what changes might he and his managers consider?
2. Explain how HMC might benefit from implementing lean production/manufacturing concepts.
3. Why would it be important for Denise and her financial analysts to attend the Lean Accounting Summit? What benefits would you expect them to acquire from this conference that would be useful at HMC?
Which accounting software features are likely to be most important for the following businesses? Search the Internet for an example of an AIS that you would recommend for each of these owners and include your rationale for that product.
a. a boutique shop that sells trendy ladies clothing
b. a small business specializing in custom golf clubs, replacement shafts for clubs, replacement grips for clubs, and similar repairs
c. a local CPA firm with 3 partners, 5 associates, and 2 administrative employees
d. a pet breeder that specializes in Burmese kittens
e. a business that sells and rents Segways in Washington, DC, that is located on Constitution Avenue, near the Lincoln Memorial
f. a high end men’s clothing business that has 4 stores that are all located in the same large metropolitan city (56 employees), and the owner is contemplating additional locations for stores in nearby cities
Tom O’Neal always wanted to own his own business. When he was in high school, he worked evenings and most weekends at a neighborhood bicycle shop. When Tom went to college at the nearby State University, he still came home in the summers and worked at the bike shop. Upon graduation from college, with his accounting degree in hand, the sole proprietor (Steven Judson) of the bike shop invited Tom to become a full partner in the bike shop. Steven told Tom that he really wanted to grow the business and thought that Tom was just the person to help him do this. Tom decided to join Steven.
Over time the business grew and they opened two more bike shops in neighboring cities.
Sales increased to more than $3.5million dollars during the past year and the three bike shops now employ 14 full time workers and another six part time employees. Although Steven and Tom hired an accountant who was keeping their books for them and producing the financial statements each year, the partners thought they needed much more information to really run their business efficiently. They thought that they might need to make an investment in information technology to take their business to the next level.
a. Would you recommend that Steven and Tom consider an investment in IT?
b. Visit the websites of the vendors that offer the appropriate sized software packages for this business. What are some of the features of possible software packages that Steven and Tom should consider?
c. Would you advise Steven and Tom to hire a consultant? Support your recommendation with appropriate research citations (e.g., business articles that offer this type of advice—what rationale do they give?).
B&R, Inc. is one of the world’s largest manufacturers and distributors of consumer products, including household cleaning supplies and health and beauty products. Last year, net sales revenues exceeded $5 billion. B&R has multiple information systems, including an integrated accounting system, a computerized manufacturing information system, and a supply chain management software system. The company is considering an ERP system to be able to conduct more of its business over the Internet.
B&R hired National Consulting Firm (NCF), and NCF recommended the move to an ERP system, which would have electronic commerce interfaces that will allow B&R to sell its products to its business customers through its website. The cost/benefit justification for the new software, which comes with an estimated price tag of $100 million (including consultant fees, all implementation, and training costs) shows that B&R can expect great cost savings from improved business processes that the ERP system will help the company to adopt. NCF implements the ERP, adopting the industry’s best practices for many of the business processes.
a. What are the likely advantages of an ERP system for B&R?
b. Visit the websites of the major ERP vendors. What are some of the characteristics you notice about their customers?
c. B&R has heard some horror stories from other CEOs about ERP implementations. What are some of the concerns B&R should address as they move forward with this project?
Over the past decade, The RETAIL Cooperative (TRC) successfully acquired a number of smaller retailers. These strategic acquisitions enabled TRC to grow significantly. In fact,
TRC is now one of the largest retailers in Europe, and employs over 230,000 people in 25 countries. The company has three primary business units: Department Stores, Hardware Stores, and Food Stores. TRC has many cross division service companies in both Europe and Asia to support the three primary business units. These support companies provide a variety of services, such as purchasing, information technology, advertising, human resources, and others.
In early 2007, the CEO scheduled a full day strategy session with the vice presidents of the business units. By the end of the day, these senior managers decided on a set of specific strategic objectives to continue the growth of the company. In particular, the CEO and vice presidents of TRC determined that the company needed to: (1) attract well educated, skilled managers to succeed in future expansions, and (2) focus on optimizing distribution channels so that managers at all levels of the organization would have immediate access to information for decision making. The goal was to link TRC’s management expertise with the geographic area of operation so that the company would continue to be dynamic and responsive to customers 24/7. Essentially, the senior managers wanted TRC mid level managers in each of the business units to have the ability to ‘‘Coordinate Globally—Act Locally.’’
The consensus was that the Human Resources support company would develop and implement appropriate procedures to find the quality managers that TRC requires. However, the VPs of the business units wanted to be directly involved in the distribution channel optimization. As a result of TRC’s rapid growth, the VPs of the business units were encountering a number of recurring problems, such as lapses in customer service, inability to respond to customer queries, and coordination problems with product availability and delivery dates. In addition, the manager for the travel department of the company noticed a significant increase in travel expenses for each of the business units and sent each of the VPs a memo. Based on these concerns, the VPs decide to meet with the Controller and Chief Information Officer (CIO) to discuss these problems and to identify possible options to resolve these issues.
To prepare for the meeting, Robin Frost (the CIO) talked with several top level managers to collect their ideas and suggestions of the features that might be required of any new technology the firm might purchase. Each of the managers agreed that TRC would need an e business application(s) that would give its managers a detailed online view of the status of the purchasing process that is shared among TRC’s employees, suppliers, and customers. For example, each purchasing agent would like to access all the purchase prices, inventories, and selling prices that are in place in any store no matter where it is located. He/she should also be able to see TRC’s manufacturing prices for its own brands, the bids made by TRC’s suppliers, and the comments or complaints made by TRC’s customers.
In addition, the new technology would have to link TRC’s suppliers, distributors, and resellers with the company’s Logistic, Production, and Distribution departments. The Accounting and Finance departments would need access to information so they could track the status of TRC’s sales, inventory, shipping, and invoicing in any TRC store, worldwide.
And finally, the Marketing and Sales departments would also need access to manage and update the company’s product catalogs, price lists, and promotional information for any TRC outlet, regardless of its geographic location.
At the meeting with the VPs, Robin made a 10 minute presentation on Internet portals.
Her research on this new technology leads her to believe this might help the VPs solve the problem of information asymmetries—that is, information not being readily available to mid level managers working with customers. At this point, Robin just knows that software packages exist that can make information available to company employees. She’s not able to articulate all the pros and cons of the technology, and has not yet called any outside consultants for advice. Robin believes that the primary challenge for this new technology will be to create a real time ‘‘retail connectivity’’ that will allow vendor collaboration, multi channel integration, and public and private trading exchanges across the globe.
Requirements:
NOTE: Research is required to properly respond to the following case questions, which could include journal articles on enterprise portals, and Internet research that could include online journal articles as well as vendor websites for product information.
1. Assume you are a consultant with one of the application platform vendors (e.g., IBM, Oracle, SAP, Microsoft) and Robin called you for information regarding Enterprise Portals. Prepare a one page summary of the advantages TRC might be able to achieve if they used an Enterprise Portal for each of the business units (and for TRC wide operations).
2. After preparing the one page summary, now prepare a 10 minute PowerPoint presentation on Enterprise Portals, focusing on the advantages for TRC of implementing this technology. (HINT: As a minimum, be sure to address such issues as scalability of the portal, reliability, performance, and fault tolerance.)
3. What sort of implementation schedule would you recommend for TRC, that is, what steps are important in an orderly implementation of this technology? Explain.
4. Based on your research, which system do you recommend for TRC? Prepare a matrix that compares the different features of the different Enterprise Portal solutions that you considered.
Treasury Stock, Cost Method The records of TMP Incorporated provide the following information on January 1, 2007:
Preferred stock, $50 par (5,000 shares authorized, issued, and outstanding)
$250,000
Common stock, $10 par (20,000 shares authorized, 10,000 shares issued and outstanding)
100,000
Additional paid in capital on preferred stock
50,000
Additional paid in capital on common stock
80,000
Retained earnings
95,000
During 2007 the following transactions were recorded by TMP:
1. Reacquired 250 shares of preferred stock for $53 per share.
2. Reacquired 500 shares of common stock for $20 per share.
3. Sold 200 shares of the common stock acquired in (2) for $27 per share.
4. Sold 250 shares of preferred stock acquired in (1) for $59 per share.
5. Sold 100 shares of the common stock acquired in (2) for $18 per share.
Required
1. Prepare journal entries to record the stock transactions of TMP Incorporated, assuming it uses the cost method of accounting for treasury stock.
2. Prepare the stockholders’ equity section of the TMP balance sheet at December 31, 2007 (assume 2007 net income was $30,000 and dividends distributed were $10,000).
Subscriptions On August 3, 2007, the date of incorporation, the Quinn Company accepts separate subscriptions for 1,000 shares of $100 par preferred stock at $104 per share and 9,000 shares of no par, no stated value common stock for $22 per share. The subscription contracts require a 10% down payment, with the balance due by November 1, 2007. Shares are issued to each subscriber upon full payment. Any defaulted shares will be sold on November 2, 2007, and the down payment returned to the defaulting subscribers. On November 1 the company received the remaining balances for 920 shares of preferred stock and 8,900 shares of common stock. The defaulted preferred shares and common shares were sold for $105 and $22.50 per share, respectively, on November 2 and the down payment was returned to the defaulting subscribers.
Required
Prepare journal entries to record all the transactions related to
1. The preferred stock
2. The common stock
Subscriptions On July 3 the Wallace Company enters into a subscription contract with various investors. Terms of the contract are as follows:
1. Number of shares: 10,000 shares of no par, $6 stated value common stock.
2. Price and payment schedule: Subscription price is $13 per share. A $3 per share down payment is required, with a $5 per share payment due on both August 3 and October 3. Shares are issued to each subscriber upon full payment.
3. Default provisions: Defaulted shares are to be sold on October 4 at the then current market price. If the proceeds from this sale are less than the total subscription price of the defaulted shares, an amount necessary to bring the proceeds up to the total subscription price is to be withheld from defaulted subscribers. Any remaining payments received from defaulted subscribers are to be returned to them.
Required
Record the July 3, August 3, and the October 3 and 4 journal entries, assuming that a subscriber to 500 shares of stock defaulted after making the down payment. The 500 shares were sold on October 4 for $11 per share.
Stock Rights to Stockholders The Nichols Electronics Corporation has been experiencing a steadily growing demand for its products. In order to meet this demand, a major expansion of production facilities is necessary. The company plans to raise the money for this proposed expansion by issuing 10,000 shares of $50 par preferred stock and 50,000 shares of $10 par common stock. These shares were previously authorized but have not yet been issued. There are presently 200,000 shares of $10 par common stock issued and outstanding. In order that the preemptive right of the current stockholders be maintained, the board of directors authorizes the issuance of stock rights to the current common stockholders on March 2, 2007. The current market price of the common stock at this date is $24 per share. Each common stockholder is to receive one stock warrant for each share of common stock owned. One additional share of common stock may be purchased at any time prior to April 7, 2007 for $23 and four of the stock warrants. There are presently 20,000 shares of the $50 par preferred stock issued and outstanding. They were selling for $78 per share on March 5, 2007. No preemptive right applies to the preferred stock. In order to assure the sale of the additional 10,000 shares of the preferred stock, the board of directors also authorizes one stock warrant to be attached to each share of preferred stock in the new issue. One of these stock warrants allows the preferred stockholder to purchase one share of $10 par common stock for $18 per share at any time prior to April 7, 2007. The preferred shares with warrants attached are issued on March 6, 2007 at a price of $83 per share. The warrants begin trading in the market at $6 each.
Required
1. Prepare the entry to record the issuance of the common stock warrants on March 2, 2007.
2. Prepare journal entries to record the following transactions:
a. The sale of the 10,000 shares of $50 par preferred stock with detachable warrants on March 6, 2007.
b. The exercise on March 19, 2007 of 6,000 of the stock warrants that had been attached to the preferred stock (the common stock price is currently $24 per share and the preferred stock is selling ex rights for $79 per share).
c. The exercise on April 2, 2007 of 120,000 stock warrants issued in conjunction with the preemptive right (the common stock is currently selling at $23.50 per share).
d. 4,000 stock warrants related to the preferred stock and 80,000 stock warrants related to the preemptive right expire on April 6, 2007.
Fixed Compensatory Share Option Plan On January 1, 2007 Roswall Corporation’s common stock is selling for $55 per share. On this date, Roswall creates a compensatory share option plan for its 60 key employees. The plan document states that each employee may purchase 500 shares of its $10 par common stock for $55 per share after working for the company for three years. On this date, based on an option pricing model, Roswall estimates that each option has a value of $18. Historically, Roswall has experienced an employee turnover rate of 5% per year and, on the grant date, it expects this rate to continue over the next three years. Because of lower turnover, at the end of 2008 Roswall changes its estimated turnover rate to 4% for the entire service period. At the end of 2009, the options vest for 54 employees. On January 13, 2010, ten executives exercise their options when the stock is selling for $75 per share.
Required
1. Prepare a schedule of the Roswall Corporation’s compensation computations for its compensatory share option plan for 2007 through 2009 (round all computations to the nearest dollar).
2. Prepare the journal entries of Roswall Corporation for 2007 through 2010 in regard to this plan.
3. Show how the account(s) related to the plan is (are) reported in the stockholders’ equity section of Roswall Corporation’s balance sheet on December 31, 2008.
Performance Based Compensatory Share Option Plan Connors Company has 70 executives to whom it grants compensatory share options on January 1, 2007. The plan grants each executive options to acquire a maximum of 100 shares of the company’s $5 par common stock at $50 per share after completing three years of continuous service. However, the number of options that vest depends on the increase in the company’s market share over the three year period. The following schedule shows the number of options granted to each executive based on the increase in market share by the end of the service period:
Increase in Market Share
Number of Share Options Granted
0 to 4%
40
5 to 8%
60
More than 8%
100
Based on past trends, on the grant date Connors predicts that its market share will increase about 3% by the end of 2009. At the end of 2008, due to improved market position over the previous two years, Connors revises this estimate to 7%. At the end of 2009, Connors determines that its market share has increased 9% over the three year period. On the grant date, Connors Company estimates that (1) the fair value of each option is $16.25, and (2) its employee turnover rate will be 3% per year over the service period. At the end of 2008; because of increased resignations, Connors changes its estimated turnover rate to 5% for each year in the service period. At the end of 2009, 59 executives vest in the plan. On January 17, 2010, 30 executives exercise their options when the stock is selling for $68 per share.
Required
1. Prepare a schedule of the Connors Company’s compensation computations for its compensatory share option plan for 2007 through 2009 (round all computations to the nearest dollar).
2. Prepare the journal entries of Connors Company for 2007 through 2010 in regard to this plan.
3. Show how the account(s) related to the plan is (are) reported in the stockholders equity section of Connors Company’s balance sheet on December 31, 2008.
4. Do you see a problem with your answer to Requirement 3 and the eventual value of the vested stock options? How might this problem be avoided?
Comprehensive The Young Corporation has been operating successfully for several years. It is authorized to issue 24,000 shares of no par common stock and 6,000 shares of 8%, $100 par preferred stock. The Contributed Capital section of its January 1, 2007 balance sheet is as follows:
8% preferred stock, $100 par
$190,000
Common stock, no par
184,000
Premium on preferred stock
15,200
$389,200
Part a. A stockholder has raised the following questions:
1. What is the legal capital of the corporation?
2. At what average price per share has the preferred stock been issued?
3. How many shares of common stock have been issued (the common stock has been issued at an average price of $23 per share)?
Part b. The company engaged in the following transactions in 2007:
Mar. 2 Received a subscription to 400 shares of the 8% preferred stock. The total subscription price is $122 per share and the contract requires a $10 per share down payment. The remaining balance must be paid within 60 days or the stock subscription is defaulted. In the case of default, 20% of the down payment on the defaulted shares is forfeited, and the remainder is returned to the defaulting subscribers.
Apr. 5 Sold 900 shares of common stock for $34 per share.
Apr. 13 Issued 400 shares of common stock in exchange for land. The stock is currently selling at $33 per share.
Apr. 30 Received remaining subscription balance (from March 2) owed on 350 shares of preferred stock and issued the stock.
May 4 Returned 80% of their down payment to defaulting subscribers and canceled the related account balances.
June 1 Reacquired 500 shares of common stock at $36 per share. The company uses the cost method to account for treasury stock.
Oct. 19 Issued for $27,000 a combination of 500 shares of common stock and 100 shares of preferred stock. The common and preferred stock are currently selling for $35 and $125 per share, respectively.
Nov. 16 Reissued the 500 shares of treasury stock at $38 per share.
Dec. 31 Distributed an $8 per share dividend on all preferred stock outstanding and a $2 per share dividend on all common stock outstanding on this date (debit Retained Earnings and credit Cash for each dividend).
Required
1. Answer the questions in part a.
2. Prepare journal entries to record the transactions in part b.
3. Prepare the contributed capital section of Young’s December 31, 2007 balance sheet.
Common stock ($10 stated value, 30,000 shares authorized, 12,000 shares issued and outstanding)
120,000
Preferred stock subscribed (800 shares subscribed at $54 per share)
40,000
Additional paid in capital on preferred stock
12,800
Additional paid in capital on common stock
72,000
Total contributed capital
$414,800
During 2007 the company entered into the following transactions:
Jan. 3 Established a compensatory share option plan for its key executives. The options vest after a three year service period. The estimated fair value of the options expected to be exercised is $81,000.
Mar. 6 Received the remaining $40 per share on the subscribed preferred stock and issued the shares.
Apr. 24 Sold 300 shares of preferred stock at $55 per share.
May 4 Received a subscription down payment of $6 per share on 1,000 shares of common stock. The remaining $11 per share balance is due in 60 days.
June 7 Sold 600 shares of common stock at $17 per share.
July 3 Received the remaining balance on subscribed common stock and issued the shares.
Sept. 21 Purchased building by paying $9,000 cash and issuing 800 shares of common stock and 450 shares of preferred stock. Common and preferred stock are currently selling for $19 and $57 per share, respectively.
Oct. 12 Reacquired 900 shares of common stock at $19.50 per share. The company uses the cost method to account for treasury stock.
Nov. 15 Issued for $32,000 a combination of 700 shares of common stock and 12% bonds with a face value of $20,000. The common stock is currently selling for $18 per share. No market value exists for the bonds.
Dec. 14 Reissued the 900 shares of treasury stock at $20.50 per share.
Dec. 28 Distributed a $3.00 per share dividend to all outstanding preferred stock and a $1.50 per share dividend to all common stock outstanding on this date (debit Retained Earnings and credit Cash for each dividend).
Dec. 31 Declared a two for one stock split on the common stock, reducing the stated value to $4 per share and increasing the authorized shares to 60,000.
Required
1. Prepare journal entries to record the preceding transactions.
2. Prepare the contributed capital section of Byrd’s December 31, 2007 balance sheet.
Contributed Capital A partial list of the accounts and ending account balances taken from the postclosing trial balance of the Jordan Corporation on December 31, 2007 is shown as follows:
Account Title
Amount
Retained earnings
$410,000
Bonds payable
220,000
Common stock subscribed
60,000
Long term investments in stock
210,000
Additional paid in capital on common stock
460,000
Premium on bonds payable
30,000
Common stock
500,000
Preferred stock subscribed
35,000
Additional paid in capital on preferred stock
112,000
Preferred stock
300,000
Additional paid in capital from treasury stock
4,000
Unrealized increase in value of securities available for sale
3,000
Common stock option warrants
20,000
Additional information:
1. Common stock is no par, with a stated value of $10 per share, 90,000 shares are authorized, 50,000 shares are issued and outstanding, 6,000 shares have been subscribed at a price of $28 per share.
2. Preferred stock has a $50 par value, 8,000 shares are authorized, 6,000 shares are issued and outstanding, 700 shares have been subscribed at a price of $70 per share. Each share is cumulative, convertible into five shares of common stock, and pays a 7% annual dividend. Dividends are not in arrears.
3. Bonds payable mature on July 1, 2019. They carry a 12% annual interest rate, payable semiannually. The premium is being amortized using the straight line method.
Required
Prepare the contributed capital section of the December 31, 2007 balance sheet for the Jordan Corporation. Include appropriate parenthetical notes for the common and preferred stock.
Contributed Capital The following is a partial list of the accounts and ending account balances taken from the post closing trial balance of the Clett Corporation on December 31, 2007:
Common stock subscribed
$10,000
Long term investments in preferred stock
$90,000
Premium on bonds payable
50,000
Preferred stock subscribed
100,000
Preferred stock
400,000
Retained earnings
610,000
Temporary investments in common stock
110,000
Premium on common stock
542,000
Bonds payable
500,000
Unrealized decrease in value of securities available for sale
6,000
Common stock
150,000
Premium on preferred stock
76,000
Additional information:
1. Bonds payable mature on December 31, 2022. They carry a 12% interest rate, payable semiannually. The premium is being amortized using the straight line method.
2. The 7.5% preferred stock is cumulative and convertible into three shares of common stock. It has a par value of $100 per share, 20,000 shares are authorized, 4,000 shares are issued and outstanding, 1,000 shares have been subscribed at $125 per share.
3. Common stock has a par value of $5 per share, 100,000 shares are authorized, 30,000 shares are issued and outstanding, 2,000 shares have been subscribed at $41 per share.
Required
Prepare the contributed capital section of the December 31, 2007 balance sheet for the Clett Corporation. Include appropriate parenthetical notes for the common and preferred stock.
Reconstruct Journal Entries At the end of its first year of operations, the Leo Company lists the following accounts and ending account balances related to stock transactions and dividends:
Balance
Account
Debit
Credit
Cash (from stock and for dividends paid)
$250,000
Subscriptions receivable: common stock
14,000
Subscriptions receivable: preferred stock
33,600
Equipment
69,000
Preferred stock subscribed (for 300 shares)
$30,000
8% preferred stock, $100 par (2,300 shares)
230,000
Additional paid in capital on preferred stock
33,000
Common stock subscribed (2,000 shares)
10,000
Common stock, $5 stated value (9,000 shares)
45,000
Additional paid in capital on common stock
46,000
Retained earnings
2,600
During the first year the following events occurred:
1. Subscription contracts were entered into for common stock at $9 per share and preferred stock at $112 per share. Common stock subscriptions required a $2 per share down payment. Preferred stock subscriptions required no down payment. Shares (either common or preferred) were issued to subscribers upon full payment.
2. One thousand shares of common stock were sold for $11 per share, and the stock was issued to stockholders.
3. Equipment with an appraised value of $69,000 was acquired by issuing 600 shares of preferred stock. The appraised value of the equipment was used to record the transaction.
4. Net income of $30,000 was closed to Retained Earnings from Income Summary at the end of the year.
5. Dividends of $8 per share on all the preferred stock outstanding and $1 per share on all the common stock outstanding were distributed at the end of the year (the company debited Retained Earnings and credited Cash for each dividend).
Required
On the basis of the preceding information, reconstruct all the journal entries that the company made to record the stock transactions, net income, and dividends.
Treasury Stock, Cost Method Bush Caine Company reported the following data on its December 31, 2006 balance sheet:
Preferred stock, $50 par
$50,000
Additional paid in capital on preferred stock
4,000
Common stock, $10 par
$100,000
Additional paid in capital on common stock
80,000
Retained earnings
95,000
The following transactions were reported by the company during 2007:
1. Reacquired 200 shares of its preferred stock at $57 per share.
2. Reacquired 500 shares of its common stock at $16 per share.
3. Sold 100 shares of preferred treasury stock at $58 per share.
4. Sold 200 shares of common treasury stock at $17 per share.
5. Sold 100 shares of common treasury stock at $9 per share.
6. Retired the shares of common stock remaining in the treasury.
The company maintains separate treasury stock accounts and related additional paid in capital accounts for each class of stock.
Required
1. Prepare the journal entries required to record the treasury stock transactions using the cost method.
2. Assuming the company earned a net income in 2007 of $30,000 and declared and paid dividends of $10,000, prepare the stockholders’ equity section of its balance sheet at December 31, 2007.
Treasury Stock Analysis The Ray Holt Corporation has retained you as a consultant on accounting policies and procedures. During 2007 the company engaged in a number of treasury stock transactions, having foreseen an opportunity to report its treasury stock as an asset, and to recognize a profit in trading its own stock. The transactions were as follows:
1. Reacquired 100 shares of its $10 par common stock at $20 per share. The shares had originally been issued at $23 per share.
2. Reacquired 150 shares of its $10 par common stock at $24 per share. The shares had originally been issued at $23 per share.
3. Reacquired 50 shares of its $100 par preferred stock at $140 per share. The shares had originally been issued at $170 per share.
4. Sold all common treasury shares held at $25 per share.
5. Reacquired 150 shares of its $100 par preferred stock at $130 per share. The shares had originally been issued at $170 per share.
6. Retired all preferred shares held in the treasury.
Required
1. Is the corporation correct in assuming that its treasury stock is an asset and that it can recognize a profit or gain from its treasury stock transactions? Explain.
2. Prepare an analysis of treasury stock accounting for Mr. Robert Richter, the controller. This analysis should contain proper journal entries for each of the treasury stock transactions occurring during 2007, prepared using the cost method discussed in the chapter.
3. Conclude the analysis by discussing how “gains” on treasury stock are reported and how treasury stock is reported on a corporation’s balance sheet.
Compensatory Share Options On November 6, 2006, Gunpowder Corp.’s board of directors approved a share option plan for key executives. On January 2, 2007, a specific number of share options were granted. These options were exercisable between January 2, 2009 and December 31, 2011 at 90% of the quoted market price on January 2, 2007. The service period is for 2007 and 2008. Some options were forfeited when an executive resigned in 2008. All other options were exercised during 2009.
Required
1. How should Gunpowder determine the compensation expense, if any, for the share option plan in 2007?
2. What is the effect of for feiture of the share options on Gunpowder’s financial statements for 2008?
3. What is the effect of the share option plan on the balance sheet at December 31, 2009? Be specific as to the changes in balance sheet accounts between November 6, 2006 and December 31, 2009.
Ethics and Share Options Smaller Corporation has been in operation for several years. Each year, at Christmas time, the company has given a cash bonus to each of its employees, and properly recorded the bonuses as compensation expense. Smaller has reached the point at which it is now making a reasonable return on its stockholders’ equity. At the end of the current year, the president of the company is considering establishing a compensatory share option plan for Smaller’s key executives, instead of paying cash bonuses to any of its employees. At this time the market price and the planned option (exercise) price of the company’s common stock are the same. The plan would allocate a specified number of options to each executive based on the executive’s level within the company and meeting the company’s targeted income goals. The service period would be three years and the options would have to be exercised within 10 years. You are the controller for Smaller and one of the key executives who would participate in the plan. You also already own a substantial number of shares of Smaller common stock. The company president comes to you for advice about this plan and says, “If Smaller Corporation establishes this plan, it will work out for all of us. It looks like the plan is pretty valuable, since an option pricing model shows a high fair value for each option.
The corporation will be saving cash because it won’t have to pay bonuses to either the executives or the other employees. But executives will manage better because their share options will depend on meeting the company’s targeted income. Since the market price and the option price are the same, there won’t be any compensation cost or expense related to this plan. Furthermore, since no bonuses would be paid to any employees, the corporation will decrease its compensation expense.
This will increase its net income and earnings per share compared to last year, as well as its return on stockholders’ equity. So the stock value will go up. This seems like a win win situation for everyone. Am I right on this? Do you think the company should adopt this compensatory share option plan?’
Required
From financial reporting and ethical perspectives, how would you reply to the president?
Pnadio Electrical Supplies distributes electrical components to the construction industry.
The company began as a local supplier 15 years ago and has grown rapidly to become a major competitor in the north central United States. As the business grew and the variety of components to be stocked expanded, Bonadio acquired a new computer and implemented an inventory control system and a computerized accounting sysem. Because of its operational importance, the inventory system has been upgraded to an online system, while all the other applications are operating in batch mode. Over the years, the company has developed or acquired more than 100 application programs and maintains hundreds of files.
Bonadio faces stiff competition from local suppliers throughout its marketing area. At a management meeting, the sales manager complained about the difficulty in obtaining immediate, current information to respond to customer inquiries. Other managers stated that they also had difficulty obtaining timely data from the system. As a result, the controller engaged a consulting firm to explore the situation. The consultant recommended installing a database management system (DBMS), and the company complied, employing Jack Gibbons as the database administrator.
At a recent management meeting, Gibbons presented an overview of the DBMS. Gibbons explained that the database approach assumes an organizational, data oriented viewpoint, as it recognizes that a centralized database represents a vital resource. Instead of being assigned to applications, information is more appropriately used and managed for the entire organization. The operating system physically moves data to and from disk storage, and the DBMS is the software program that controls the data definition library that specifies the data structures and characteristics. As a result, both the roles of the application programs and query software, and the tasks of the application programmers and users are simplified. Under the database approach, the data are available to all users within security guidelines.
a. Explain the basic difference between a file oriented system and a database management system.
b. Describe at least three advantages and at least three disadvantages of the database management system.
c. Describe the duties and responsibilities of Jack Gibbons, the database administrator.
(CMA Adapted)
Purchase Order Number
Date
Customer Number
Customer Name
Customer Phone Number
Item Number
Item Description
Unit Cost
Unit
Quantity Ordered
12345
8/19/03
123 8209
Charles Dresser, Inc.
(752) 433 8733
X32655
Baseballs
$33.69
dozen
20
X34598
Footballs
53.45
dozen
10
Z34523
Bball Hoops
34.95
each
20
123456
8/19/03
123 6733
Patrice Schmidt’s Sports
(673) 784 4451
X98673
Softballs
35.89
dozen
10
X34598
Footballs
53.45
dozen
5
X67453
Soccer balls
45.36
dozen
10
systems but is not well organized. In fact, because of the repeating groups in the right most columns, it cannot even be stored in a computer system.
Requirements
Store this data in a spreadsheet to make it easy to manipulate. Then perform each of the following tasks in turn:
1. Reorganize the data in first normal form and print your spreadsheet. Why is your data in first normal form?
2. Reorganize the data from part 1 into second normal form and print your spreadsheet. Why is your data in second normal form?
3. Reorganize the data from part 2 into third normal form and print your spreadsheet. Why is your data in third normal form?
The company began as a local supplier 15 years ago and has grown rapidly to become a major competitor in the north central United States. As the business grew and the variety of components to be stocked expanded, Bonadio acquired a new computer and implemented an inventory control system and a computerized accounting sysem. Because of its operational importance, the inventory system has been upgraded to an online system, while all the other applications are operating in batch mode. Over the years, the company has developed or acquired more than 100 application programs and maintains hundreds of files.
Bonadio faces stiff competition from local suppliers throughout its marketing area. At a management meeting, the sales manager complained about the difficulty in obtaining immediate, current information to respond to customer inquiries. Other managers stated that they also had difficulty obtaining timely data from the system. As a result, the controller engaged a consulting firm to explore the situation. The consultant recommended installing a database management system (DBMS), and the company complied, employing Jack Gibbons as the database administrator.
At a recent management meeting, Gibbons presented an overview of the DBMS. Gibbons explained that the database approach assumes an organizational, data oriented viewpoint, as it recognizes that a centralized database represents a vital resource. Instead of being assigned to applications, information is more appropriately used and managed for the entire organization. The operating system physically moves data to and from disk storage, and the DBMS is the software program that controls the data definition library that specifies the data structures and characteristics. As a result, both the roles of the application programs and query software, and the tasks of the application programmers and users are simplified. Under the database approach, the data are available to all users within security guidelines.
a. Explain the basic difference between a file oriented system and a database management system.
b. Describe at least three advantages and at least three disadvantages of the database management system.
c. Describe the duties and responsibilities of Jack Gibbons, the database administrator.
(CMA Adapted)
Purchase Order Number
Date
Customer Number
Customer Name
Customer Phone Number
Item Number
Item Description
Unit Cost
Unit
Quantity Ordered
12345
8/19/03
123 8209
Charles Dresser, Inc.
(752) 433 8733
X32655
Baseballs
$33.69
dozen
20
X34598
Footballs
53.45
dozen
10
Z34523
Bball Hoops
34.95
each
20
123456
8/19/03
123 6733
Patrice Schmidt’s Sports
(673) 784 4451
X98673
Softballs
35.89
dozen
10
X34598
Footballs
53.45
dozen
5
X67453
Soccer balls
45.36
dozen
10
systems but is not well organized. In fact, because of the repeating groups in the right most columns, it cannot even be stored in a computer system.
Requirements
Store this data in a spreadsheet to make it easy to manipulate. Then perform each of the following tasks in turn:
1. Reorganize the data in first normal form and print your spreadsheet. Why is your data in first normal form?
2. Reorganize the data from part 1 into second normal form and print your spreadsheet. Why is your data in second normal form?
3. Reorganize the data from part 2 into third normal form and print your spreadsheet. Why is your data in third normal form?
Bonnie P Manufacturing Company (Data Validation Using a DBMS)
The payroll department at the Bonnie P Manufacturing Company has defined the following record structure for employee records.
Date Field
Data Type
Example
Last Name
Text
Kerr
First Name
Text
Stephen
Social Security number
Text
123 45 6789
Home phone number
Text
(987) 456–4321
Work phone extension
Number
123
Payrate
Currency
$12.34
Number of tax exemptions
Number
3
Department
Text
A
All fields are required. The employee’s Social Security number serves as the record key. Work phone extensions are always greater than ‘‘100’’ and less than ‘‘999.’’ Pay rates are always at least $7.75 and no more than $29.85. The maximum number of tax exemptions allowed is ‘‘10.’’ Finally, there are only three departments: A, B, and C.
Requirements
1. Using a DBMS such as Access, create a record structure for the company.
2. Create data validation rules for as many data fields as you can. For each data validation rule, also create validation text that the system can use to display an appropriate error message. Create a list of such rules on a separate piece of paper.
3. Create employee records for yourself, and employees with the last names Anderson, Baker, and Chapman using data that you make up. Print this information.
4. Attempt to create one more record that violates a data validation rule. Create a screen capture of one or more violations, as suggested by your instructor.
Clifford Cohen University (Enforcing Referential Integrity)
Clifford Cohen University was founded as a small, liberal arts school just three years ago.
Since that time, the institution has grown to the point where parking on campus is difficult and parking in illegal areas is common. Accordingly, the Board of Directors has reluctantly approved a policy requiring campus police to issue parking tickets.
Currently, the university requires students and faculty to register their cars with the parking office, which issues them parking decals that registrants must display inside the front windshield of their cars. At present, all record keeping at the parking office is done manually, severely limiting the ability of office personnel to create reports or perform meaningful statistical analyses about parking on campus. For example, it is currently not known how many students of each class (freshman, sophomore, etc.) register their cars or how many full time faculty, part time faculty, or clerical staff register their cars. The new policy of writing parking tickets will only add to this problem because it will require office staff to match parking tickets to student or faculty names. In addition, the Board of Directors would like an end of semester report indicating how many parking violations of each type (meter violation, invalid parking sticker, etc.) are issued by the campus police. To help solve these problems, the University Board of Directors has hired you to create a computerized system for them. You realize that a database system might work for this, and accordingly propose a database of tables with record structures similar to those in. The Board of Directors approves your plan, but asks that you create a small system to demonstrate its features before creating a full blown system.
Requirements:
1. Use Microsoft Access (or an alternate DBMS designated by your instructor) to create the three tables illustrated in Figure 5 4. What data type did you specify for each data field in each table?
2. Create at least three records in the car registration table. Be sure to use your own name as one of the registrants. Also, create at least three records for the Parking Violations Code File. Make up your own fine amounts instead of using the ones shown in the figure.
3. For each record you create in the car registration file in step 2 above, create at least three parking tickets and input this information to the Tickets File. Thus, you should have at least nine records in this file. Be sure that at least one record in the Tickets File contains a reference to each of the records in the Parking Violations Code File (i.e., at least one person breaks every possible parking violation). Print copies of the records in each table for your instructor.
4. Attempt to create a record in the Ticket File that contains a nonexistent ticket code in the parking Violations Code File. Were you successful?
What are the relationships among the records in the three tables? Print a copy of this window as documentation for your project.
6. Now return to the Tables portion of Access and display the Car Registration table. You should now see the plus symbols illustrated in. Click on one of these symbols. Are you able to view the linked records?
7. Now again attempt to create a record in the ticket file that contains a nonexistent ticket code in the parking Violations Code File. Were you successful this time?
8. Finally, attempt to delete a record in the Parking Violations Code File. Why can’t you do it?
9. If required by your instructor, create an example of the parking violations by type report desired by the Board of Directors using the database you just created.
Business has been growing at BSN Bicycles, and the store owners have been using their Access database to store information about their customers. Now that the store is a little more established, the owners are thinking more about how best to attract more customers to their store. One idea is to see where their current customers live. The owners also want a complete list of their credit customers.
Requirements:
1. If you have not already done so, create a database for BSN and the customer’s table described in Case 4–25 in Chapter 4. Be sure to create at least 10 customer records for the company, including one with your name. Several of the customers should also live in the state of Virginia (VA) and several customers should have zip code ‘‘12345.’’ The Virginia customers and the customers with zip code 12345 do not have to be the same.
2. If you have not already done so, create several invoices for your customers.
3. Create a query that selects all customers living in Virginia. Print your results.
4. Create a query that selects all customers living in zip code 12345. Print your results.
5. Create a query that selects all customers living in Virginia who also have zip code 12345. Print your results.
6. Create a query that selects all credit customers. (Hint: use the word ‘‘Yes’’ for the criteria in this query.) Print your results.
Furry Friends Foundation II (Creating Queries for Databases)
Recall from Case 4–21 in Chapter 4 that the Furry Friends Foundation is a nonprofit organization that finds homes for abandoned animals. The foundation has recently computerized some of its operations by storing its accounting data in a relational database. One reason for this was to enable it to more easily answer questions about donations. This portion of the case provides some examples of such questions and gives you practice creating database queries to answer them.
Requirements:
1. If you have not already done so, create the tables and relationships described.
2. Using Access or similar software as required by your instructor, create three donations for yourself. You should donate to dogs in one contribution, cats in the second contribution, and unspecified (‘‘other’’) in the third contribution.
3. Create a query that selects all customers donating to cats. Print your results.
4. Create a query that selects all contributors who donated over $50. Print your results.
5. Create a query that selects all contributors who donated over $100 to dogs. Print your results.
Call Provision of Serial Bonds The Case Corporation issued $600,000 of 13% bonds on January 1, 2006 for $636,000. The bonds are payable in three annual $200,000 installments beginning December 31, 2007, pay interest semiannually on June 30 and December 31, and are callable at 107. On January 1, 2008 the bonds due December 31, 2009 are recalled at the call price. The corporation uses the bonds outstanding method of amortization.
Required
Prepare a serial bond premium amortization schedule and the journal entries to record the bond issue, payment of interest, and bond retirement on each of the following dates:
Various Bond Characteristics One way for a corporation to accomplish long term financing is through the issuance of long term debt instruments in the form of bonds.
Required
1. Explain how to account for the proceeds from bonds issued with detachable stock purchase warrants.
2. Contrast a serial bond with a term (straight) bond.
3. For a five year term bond issued at a premium, why is the amortization in the first year of the life of the bond different using the interest method of amortization instead of the straight line method? Include in your discussion whether the amount of amortization in the first year of the life of the bond is higher or lower using the interest method instead of the straight line method.
4. When a company sells a bond issue between interest dates at a discount, what journal entry does it make and how is the subsequent amortization of bond discount affected? Include in your discussion an explanation of how the amounts of each debit and credit are determined.
5. Explain how to account for and classify the gain or loss from the reacquisition of a long term bond prior to its maturity.
Convertible and Nonconvertible Bonds On February 1, 2004 Aubrey Company sold its five year, $1,000 par value, 9% bonds, which were convertible at the option of the investor into Aubrey Company common stock at a ratio of 10 shares of common stock for each bond. Aubrey Company sold the convertible bonds at a discount. Interest is payable annually each February 1. On February 1, 2007 Mel Company, an investor in the Aubrey Company convertible bonds, tendered 1,000 bonds for conversion into 10,000 shares of Aubrey Company common stock, which had a market value of $110 per share at the date of the conversion. On May 1, 2007 Aubrey Company sold its 10 year, $1,000 par value, 10% nonconvertible term bonds dated April 1, 2007. Interest is payable semiannually, and the first interest payment date is October 1, 2007. Due to market conditions, the company sold the bonds at an effective interest rate (yield) of 12%.
Required
1. Explain how Aubrey Company accounts for the conversion of the convertible bonds into common stock under both the book value and market value methods. Discuss the rationale for each method.
2. Were the nonconvertible term bonds sold at par, at a discount, or at a premium? Discuss the rationale for your answer.
3. Identify and discuss the effects on Aubrey Company’s 2007 income statement associated with the nonconvertible term bonds.
Serial Bonds On November 1, 2007 Janine Company sold directly to underwriters at a lump sum price, $1,000 face value, 9% serial bonds dated November 1, 2007 at an effective annual interest rate (yield) of 11%. A total of 25% of these serial bonds are due on November 1, 2009, a total of 35% on November 1, 2010, and a total of 40% on November 1, 2011. Interest is payable semiannually and the first interest payment date is May 1, 2008. Janine uses the interest method of amortization and incurred bond issue costs in preparing and selling the bond issue.
Required
1. How does the company determine the market price of the serial bonds?
2. How does the company present all items related to the serial bonds, except for bond issue costs, in a balance sheet prepared immediately after it sold the serial bond issue?
3. How does the company determine the amount of interest expense for the serial bonds for 2007?
Recording Convertible Debt Zakin Co. recently issued $1,000,000 face value, 10%, 30 year subordinated debentures at 97. The debentures are redeemable at 103 upon demand by the issuer at any date upon 30 days notice 10 years after the issue. The debentures are convertible into $10 par value common stock of the Company at the conversion price of $12.50 per share for each $500 or multiple thereof of the principal amount of the debentures.
Required
1. Explain how the conversion feature of convertible debt has a value to the:
a. Issuer
b. Purchaser
2. Management of Zakin Co. has suggested that in recording the issuance of the debentures, it should assign a portion of the proceeds to the conversion feature.
a. What are the arguments for according separate accounting recognition to the conversion feature of the debentures?
b. What are the arguments supporting accounting for the convertible debentures as a single element?
3. Assume that the company assigns no value to the conversion feature upon issue of the debentures. Assume further that five years after issue, debentures with a face value of $100,000 and book value of $97,500 are tendered for conversion on an interest payment date when the market price of the debentures is 104 and the common stock is selling at $14 per share and that the Company records the conversion as follows:
Bonds Payable
100,000
Bond Discount
2,500
Common Stock
80,000
Premium on
Common Stock
17,500
Discuss the propriety of the preceding accounting treatment.
Debt with Detachable Stock Warrants Incurring long term debt with an arrangement whereby lenders receive an option to buy common stock during all or a portion of the time the debt is outstanding is a frequently used corporate financing practice. In some situations, the result is achieved through the issuance of convertible bonds; in others, the debt instruments and the warrants to buy stock are separate.
Required
1. a. Explain the differences that exist in current accounting for original proceeds of the issuance of convertible bonds, and of debt instruments with separate warrants to purchase common stock.
b. Explain the underlying rationale for the differences described in Requirement 1a.
c. Summarize the arguments that have been presented for the alternative accounting treatment.
2. At the start of the year, AB Company issued $6 million of 7% notes along with warrants to buy 400,000 shares of its $10 par value common stock at $18 per share. The notes mature over the next 10 years, starting one year from date of issuance, with annual maturities of $600,000. At the time, AB had 3,200,000 shares of common stock outstanding and the market price was $23 per share. The company received $6,680,000 for the notes and the warrants. For AB Company, 7% was a relatively low borrowing rate. If offered alone, at this time, the notes would have been issued at a 20 to 24% discount.
Prepare journal entries for the issuance of the notes and warrants for the cash consideration received.
Long Term Notes Payable Business transactions often involve the exchange of property, goods, or services for notes or similar instruments that may stipulate no interest rate or an interest rate that varies from prevailing rates.
Required
1. When a company exchanges a note for property, goods, or services, what value does it place on the note:
a. If it bears interest at a reasonable rate and is issued in a bargained transaction entered into at arm’s length? Explain.
b. If it bears no interest and/or is not issued in a bargained transaction entered into at arm’s length? Explain.
2. If the recorded value of a note differs from the face value:
a. Explain how the company should account for the difference.
b. Explain how the company should present this difference in the financial statements.
Bonds: Sale, Interest, and Recall On March 2, 2007 Wesley Company sold its five year, $1,000 face value, 8% bonds dated March 2, 2007 at an effective annual interest rate (yield) of 10%. Interest is payable semiannually and the first interest payment date is September 2, 2007. Wesley uses the interest method of amortization and incurred bond issue costs in preparing and selling the bond issue. Wesley can call the bonds at 101 at any time on or after March 2, 2008.
Required
1. a. How does the company determine the selling price of the bonds?
b. Specify how the company presents all items related to the bonds in a balance sheet prepared immediately after the bond issue is sold.
2. What items related to the bond issue does Wesley include in its 2007 income statement, and how does it determine each?
3. Will the amount of bond discount amortization using the interest method of amortization be lower in the second or third year of the life of the bond issue? Why?
4. Assuming that the bonds are called in and retired on March 2, 2008, how does Wesley report the retirement of the bonds on the 2008 income statement?
Bonds: Issuance, Expense, and Conversion On January 1, 2006 Brewster Company issued 2,000 of its five year, $1,000 face value, 11% bonds dated January 1 at an effective annual interest rate (yield) of 9%. Brewster uses the effective interest method of amortization. On December 31, 2007 Brewster extinguished the 2,000 bonds early through acquisition in the open market for $1,980,000. On July 1, 2006 Brewster issued 5,000 of its six year, $1,000 face value, 10% convertible bonds dated July 1 at an effective annual interest rate (yield) of 12%. The bonds are convertible at the option of the investor into Brewster’s common stock at a ratio of 10 shares of common stock for each bond. Brewster uses the effective interest method of amortization. On July 1, 2007 an investor in Brewster’s convertible bonds tendered 1,500 bonds for conversion into 15,000 shares of Brewster’s common stock, which had a market value of $105 per share at the date of the conversion.
Required
1. a. Were the 11% bonds issued at par, at a discount, or at a premium? Why?
b. Is the amount of interest expense for the 11% bonds using the effective interest method of amortization higher in the first or second year of the life of the bond issue? Why?
2. a. How is a gain or loss on early extinguishment of debt determined? Does the early extinguishment of the 11% bonds result in a gain or loss? Why?
b. How does Brewster report the early extinguishment of the 11% bonds on the 2007 income statement?
3. a. Does recording the conversion of the 10% convertible bonds into common stock under the book value method affect net income? What is the rationale for the book value method?
b. Does recording the conversion of the 10% convertible bonds into common stock under the market value method affect net income? What is the rationale for the market value method?
Ethics and Long Term Liabilities You are an accountant for the Virden Company, which has two items of long term convertible debt on its balance sheet. The president of the company calls you into his office and says, “We are too leveraged. So, you remember that convertible debt we issued at the beginning of the year? Let’s figure out the value of the conversion feature and assign that to equity so that we can reduce the amount we report as debt. And I have also been thinking about that convertible debt we issued at par five years ago. If you remember, each $1,000 bond is convertible into 25 shares. Now that our shares are trading at $70, obviously that is no longer debt. So let’s classify that debt as equity now.”
Required
From financial reporting and ethical perspectives, discuss the issues raised by this situation.
On January 1, 2007 Stoner Corporation granted compensatory share options to key employees for the purchase of shares of the company’s common stock at $25 per share. The options are intended to compensate employees for the next two years. The options are exercisable within a four year period beginning January 1, 2009 by grantees still in the employ of the company. The fair value of each option was $7 on the date of grant. Stoner expects to distribute 10,000 shares of treasury stock when options are exercised. The treasury stock was acquired by Stoner during 2006 at a cost of $28 per share and was recorded under the cost method. How much should Stoner charge to compensation expense for the year ended December 31, 2007?
Stock Subscription On February 3 the Teel Corporation enters into a subscription contract with several subscribers for 5,000 shares of $10 par common stock at a price of $16 per share. The contract requires a down payment of 25%, with the remaining balance to be paid on May 3. The stock will be issued to each subscriber upon full payment.
Required
Prepare journal entries to record the following:
1. The February 3 receipt of the down payment and signing of the contract.
2. The May 3 receipt of the remaining balance from subscribers to 4,000 shares. The market price is currently $17 per share.
3. The default of a subscriber to 1,000 shares. These shares are sold on the open market for $17 per share on May 4, and the down payment is returned to the subscriber.
Fixed Compensatory Share Option Plan McEnroe Company has 20 executives to whom it grants compensatory share options on January 1, 2007. At that time it grants each executive the right to purchase 100 shares of its $5 par common stock at $40 per share after a three year service period. The value of each option is estimated to be $10.25 on the grant date. Based on its average employee turnover rate each year, McEnroe expects that two executives will not vest in the plan. At the end of 2009 McEnroe confirms that the actual turnover was the same as expected. On January 5, 2010, three executives exercise their options.
Required
Prepare the journal entries of McEnroe Company for 2007 through 2010 in regard to its compensatory share option plan (round all calculations to the nearest whole number).
Fixed Compensatory Share Option Plan On January 1, 2007 Sampress Company adopts a compensatory share option plan for its 50 executives. The plan allows each executive to purchase 200 shares of its $2 par common stock for $30 per share after completing a three year service period. Sampress estimates the value of each option to be $14.00 on the grant date. It has had a 4% employee turnover rate each year and uses this rate in its compensation cost calculations in 2007. Because of higher turnover, at the end of 2008 Sampress changes it estimated turnover rate to 5% per year for the entire service period. At the end of 2009, Sampress determined that the actual turnover was seven executives for the entire service period. On January 6, 2010, eight executives exercise their options.
Required
1. Prepare a schedule of the Sampress Company’s compensation computations for its compensatory share option plan for 2007 through 2009 (round all computations to the nearest dollar).
2. Prepare the journal entries of Sampress Company for 2007 through 2010 in regard to this plan.
Performance Based Share Option Plan On January 1, 2007 Seles Company adopts a performance based share option plan for its 80 key executives. Each executive is granted a maximum of 70 share options, but the number of options that vest depends on the percentage increase in Seles Company’s sales over a three year service period. If by December 31, 2009, sales have increased by at least 10%, 50 options will vest for each executive; if sales have increased by at least 15%, all 70 options will vest. On the grant date, Seles estimates that its sales will increase by 12% over the service period, and that its annual employee turnover rate will be 2%. It also determines that the fair value of an option expected to vest is $13.40. At the end of 2009, actual sales had increased by 16% for the service period and the actual turnover was six key executives for the service period.
Required
1. Prepare a schedule of the Seles Company’s computations for its compensatory share option plan for 2007 through 2009 (round all computations to the nearest dollar).
2. Prepare the compensation expense journal entry for 2007.
Share Appreciation Rights On January 1, 2006, as a form of executive compensation, Wadlin Corporation grants share appreciation rights to Robert Brandt. These rights entitle Brandt to receive cash equal to the excess of the quoted market price over a $20 option price for 4,000 shares of the company’s common stock on the exercise date. The service period is three years (which Brandt is expected to complete) and the rights must be exercised within five years. Brandt exercises his rights on December 31, 2009. The fair value per SAR was as follows: 12/31/06, $3.00; 12/31/07, $4.20; 12/31/08, $4.00; and 12/31/09, $5.00. The quoted market price per share of common stock was $25 on December 31, 2009.
Required
1. Prepare a schedule to compute the compensation expense related to this SAR plan for 2006 through 2009.
2. Prepare the December 31, 2009 journal entry related to this SAR plan.
Stock Rights with Preferred Stock The Nelson Corporation issues 6,000 shares of $100 par preferred stock at a price of $112 per share. A stock warrant is attached to each share of preferred stock that enables the holder to purchase one share of $10 par common stock for $25. Immediately after issuance, the preferred stock begins selling ex rights for $110 per share. The warrants (which expire in 30 days) also begin trading for $4 per warrant.
Required
1. Prepare the journal entry to record the sale of the preferred stock.
2. Prepare the journal entry to record the issuance of 5,000 shares of common stock in exchange for 5,000 warrants and $25 per share.
3. Prepare the journal entry to record the expiration of 1,000 warrants.
Various Journal Entries Sapp Company is authorized to issue 20,000 shares of no par, $5 stated value common stock and 5,000 shares of 9%, $100 par preferred stock. It enters into the following transactions:
1. Accepts a subscription contract to 7,000 shares of common stock at $42 per share and receives a 30% down payment.
2. Collects the remaining balance of the subscription contract and issues the common stock.
3. Acquires a building by paying $23,000 cash and issuing 2,000 shares of common stock and 600 shares of preferred stock. Common stock is currently selling at $46 per share; preferred stock has no current market value. The building is appraised at $180,000.
4. Sells 1,000 shares of common stock at $45 per share.
5. Sells 900 shares of preferred stock at $112 per share.
6. Declares a two for one stock split on the common stock, reducing the stated value to $2.50 per share.
Required
Prepare journal entries to record the preceding transactions.
Contributed Capital The following is a list of selected accounts and ending account balances taken from the books of the Adams Company on December 31, 2007:
Account Title
Amount
Premium on preferred stock
$17,000
Common stock
75,000
Premium on bonds payable
4,000
Preferred stock
80,000
Bonds payable
100,000
Preferred stock subscribed
20,000
Retained earnings
121,000
Premium on common stock
84,000
Additional information:
1. Common stock has a $5 par value, 50,000 shares are authorized, 15,000 shares have been issued and are outstanding.
2. Preferred stock has a $100 par value, 3,000 shares are authorized, 800 shares have been issued and are outstanding. Two hundred shares have been subscribed at $120 per share. The stock pays an 8% dividend, is cumulative and callable at $130 per share.
3. Bonds payable mature on January 1, 2011. They carry a 12% annual interest rate, payable semiannually.
Required
Prepare the contributed capital section of the December 31, 2007 balance sheet for the Adams Company. Include appropriate parenthetical notes.
Treasury Stock, Cost Method On January 1 the Sanders Corporation had 1,000 shares of $10 par common stock authorized and outstanding. These shares were originally issued at a price of $26 per share. In addition, 500 shares of $50 par preferred stock were outstanding. These were issued at a price of $75 per share. During the year the following stock transactions occurred:
1. March 3: Sanders Corporation reacquired 100 shares of its own common stock at a cost of $24 per share.
2. April 27: It sold 25 shares of the stock acquired on March 3 for $30 per share.
3. July 10: It sold 25 shares of the stock acquired on March 3 for $22 per share.
4. October 12: It retired the remaining shares acquired on March 3.
Required
Prepare journal entries to record the treasury stock transactions of Sanders Corporation assuming it uses the cost method.
Fixit Ltd is a manufacturing company which produces a fixed budget for planning purposes. Set out below is the fixed monthly budget of production costs, together with the actual results observed for the month of July Year 7.
Budget
Actual
Units produced
5,000
5,500
£
£
Costs:
Direct materials
20,000
22,764
Direct labour
60,000
75,900
Variable production overhead
14,000
14,950
Fixed production overhead
10,000
9,000
Depreciation
4,000
4,000
In preparing the fixed budget, the following standards were adopted:
Direct material
10 kg of materials per unit produced.
Direct labour
2 hours per unit produced.
Variable production overhead
A cost rate per direct labour hour was calculated.
Fixed production overhead
A cost rate per unit was calculated.
Depreciation
Straight line method is used for all assets.
The following additional information is available concerning the actual output:
(a) the actual usage of materials in July was 54,200 kg; and
(b) the nationally agreed wage rate increased to £6.60 per hour at the start of July.
Required
(a) Prepare a flexible budget in respect of Fixit Ltd for the month of July Year 7.
Concrete Products Ltd manufactures heavy paving slabs for sale to local authorities and garden paving slabs for domestic use. The board of directors meets early in each month to review the company’s performance during the previous month. In advance of each meeting, the directors are presented with a computer printout summarizing the activity of the previous month. The computer printout in respect of the month of December Year 8 is set out below:
Heavy paving
Garden paving
Actual tonnes
Budget tonnes
Actual tonnes
Budget tonnes
Sales volume
29,000
27,500
10,500
8,500
Production volume
29,000
27,500
10,500
8,500
£000s
£000s
£000s
£000s
Revenue
720
690
430
300
Variable cost of sales
280
270
170
127
Contribution
440
420
260
173
Further information
(a) The actual fixed costs incurred during the month equalled the budgeted fixed costs of £310,000.
(b) Stocks are valued at standard cost. You have recently been appointed a director of Concrete Products Ltd. At an earlier meeting with the finance director you received an explanation of the basis for the company’s monthly budget and you are satisfied that the budget has been prepared on a realistic basis.
Required
(a) Prepare, from the information contained in the computer printout, your analysis and comments on the company’s performance during the month of December Year 8, as background for the board meeting.
(b) List, with reasons, three questions you would ask at the meeting in order to give you a fuller understanding of the company’s performance during the month.
Nu Line Ltd purchases manufactured machine tools for conversion to specialist use. The converted tools are sold to the textile industry. The following information relates to the month of July Year 3.
Budget (units)
Actual (units)
Purchases of machine tools
180
180
Completed production
180
140
Sales
130
150
Stock of finished goods at 1 July Year 3
15
15
Stock of finished goods at 31 July Year 3
65
5
There was no stock of purchased machine tools or work in progress at either the start or the end of the month. Finished goods are valued at full standard cost of production. The standard cost of one completed production unit is:
£
Purchased machine tool
600
Direct labour
300
Fixed production overhead
200
Variable production overhead
100
1,200
The fixed production overhead per unit was determined by reference to the budgeted volume of production per month. A standard selling price of £2,000 per completed unit was specified in the budget and was achieved in practice. Actual costs incurred during the month were as follows:
£
Invoiced price of machine tools purchased
86,800
Direct wages paid
47,500
Fixed production overhead
35,000
Variable production overhead
13,000
Required
(a) Prepare a statement of the budgeted profit and the actual profit for the month of July.
(b) Using variances, reconcile the budgeted profit with the actual profit.
Standard pine benches are assembled and packed in the bench assembly department of Furniture Manufacture Ltd. The department is treated as a cost center. Control reports prepared every month consist of a statement comparing actual costs incurred in the department with the level of costs which was budgeted at the start of the month. For the month of June Year 6 the following control report was produced, and received favorable comment from the directors of the company. Bench Assembly Department Control Report for June Year 6
Budgeted cost
Actual cost
Variance1
Fixed
Variable
Total
£
£
£
£
£
Direct labour
–
36,000
36,000
30,000
6,000 (F)
Indirect labour
6,000
8,000
14,000
14,000
–
Indirect materials
–
4,000
4,000
3,500
500 (F)
Power
3,000
12,000
15,000
9,000
6,000 (F)
Maintenance materials
–
5,000
5,000
3,000
2,000 (F)
Maintenance labour
5,000
4,000
9,000
15,000
6,000 (A)
Depreciation
85,000
–
85,000
75,000
10,000 (F)
Production overhead
–
20,000
20,000
15,000
5,000 (F)
Due to a power failure, the level of production achieved was only 75% of that expected when the budget was prepared. No adjustment has been made to the original budget because the departmental manager claims that the power failure which caused the loss of production was beyond his control.
Required
Prepare a memorandum to the directors of the company:
1. Explaining the weaknesses in the existing form of control report.
2. Presenting the control report in such a way as to give a more meaningful analysis of the costs.
3. Assessing the performance of the Bench Assembly Department during the month.
Dairies Ltd operates a milk processing and delivery business. The retail distribution of milk is controlled by a regional head office which has overall responsibility for five geographical distribution areas. Each area is run by an area manager who has responsibility for ten depots. At each depot there is a depot manager in charge of 20 drivers and their milk floats. Milk is bottled at a central processing plant and sent to depots by lorry. All information regarding the operation of each depot and each area office is sent to the divisional head office accounting department. This department produces weekly reports to be sent to each depot manager, each area manager and the manager of the distribution division. A pyramidal system of reporting is in operation whereby each manager receives an appropriate weekly report containing the financial information on the operations for which he is responsible.
Required
1 Explain what is meant by responsibility accounting.
2 List, giving reasons, the information which should be contained in the weekly reports to each of the three levels of manager specified.
Projects Ltd intends to acquire a new machine costing £50,000 which is expected to have a life of five years, with a scrap value of £10,000 at the end of that time. Cash flows arising from operation of the machine are expected to arise on the last day of each year as follows:
End of year
£
1
10,000
2
15,000
3
20,000
4
25,000
5
25,000
Calculate the payback period, the accounting rate of return and the net present value, explaining the meaning of each answer you produce.
XYZ Ltd is considering purchasing a new machine, and the relevant facts concerning two possible choices are as follows:
Machine A
MachineB
Capital expenditure required
£65,000
£60,000
Estimated life in years
4
4
Residual value
nil
nil
Cash flow after taxation each year
£25,000
£24,000
The company’s cost of capital is 10%.
Required
Calculate, for each machine, the payback period, the net present value and the profitability index. State, with reasons, which machine you would recommend.
Marsh Limited has investigated the possibility of investing in a new machine. The following data have been extracted from the report relating to the project:
a. Cost of machine on 1 January Year 6: £500,000.
b. Estimated scrap value at end of Year 5: Nil.
Year
Net cash flows £000
1
50
2
200
3
225
4
225
5
100
The company’s cost of capital is 8%.
Required
Evaluate the acceptability of the project using the net present value method of investment appraisal.
The directors of Advanced plc. are currently considering an investment in new production machinery to replace existing machinery. The new machinery would produce goods more efficiently, leading to increased sales volume. The investment required will be £1,150,000 payable at the start of the project. The alternative course of action would be to continue using the existing machinery for a further five years, at the end of which time it would have to be replaced. The following forecasts of sales and production volumes have been made:
Sales (in units)
Year
Using existing machinery
Using new machinery
1
400,000
560,000
2
450,000
630,000
3
500,000
700,000
4
600,000
840,000
5
750,000
1,050,000
Production (in units)
Year
Using existing machinery
Using new machinery
1
420,000
564,000
2
435,000
637,000
3
505,000
695,000
4
610,000
840,000
5
730,000
1,044,000
Further information
(a) The new machinery will reduce production costs from their present level of £7.50 per unit to £6.20 per unit. These production costs exclude depreciation.
(b) The increased sales volume will be achieved by reducing unit selling prices from their present level of £10.00 per unit to £8.50 per unit.
(c) The new machinery will have a scrap value of £150,000 after five years.
(d) The existing machinery will have a scrap value of £30,000 at the start of Year 1. Its scrap value will be £20,000 at the end of Year 5.
(e) The cost of capital to the company, in money terms, is presently 12% per annum.
Required
1 Prepare a report to the directors of Advanced plc on the proposed investment decision.
2 List any further matters which the directors should consider before making their decision.
Loan Impairment The Perry National Bank has a note receivable of $200,000 from the Mogren Company that it is carrying at face value and is due on December 31, 2011. Interest on the note is payable at 9% each December 31. The Mogren Company paid the interest due on December 31, 2007, but informed the bank that it would probably miss the next two years’ interest payments because of its financial difficulties. After that, it expected to resume its annual interest payments, but it would make the principal payment one year late, with interest paid for that additional year at the time of the principal payment.
Required
1. Compute the value of the impaired loan on December 31, 2007.
2. Prepare the journal entries from 2007 to 2012 for the bank to record the above events.
Loan Impairment The Oaks National Bank has a note receivable of $500,000 from the Haldane Company that it is carrying at face value and is due on December 31, 2013. Interest on the note is payable at 6% each December 31. The Haldane Company paid the interest due on December 31, 2007, but informed the bank that it would probably miss the next three years’ interest payments because of its financial difficulties. After that, it expected to resume its annual interest payments, but it would make the principal payment two years late, with interest paid for the additional years. On January 1, 2010 the bank received new information and now expected the Haldane Company to pay the interest for 2010 through 2015 on December 31 of each year.
Required
1. Compute the value of the impaired loan on December 31, 2007.
2. Prepare the journal entries from 2007 to 2015 for the bank to record the above loan impairment events.
Serial Bonds :On January 1, 2006 Mykoo Corporation issued $1 million in five year, 10% serial bonds to be repaid in the amount of $200,000 on January 1, 2007, 2008, 2009, 2010, and 2011. Interest is payable at the end of each year. The bonds were sold to yield a rate of 12%. Information on present value and future amount factors is as follows:
Present Value of an Ordinary Annuity of $1 for 5 Years
Future Amount of an Ordinary Annuity of $1 for 5 Years
10%
12%
10%
12%
3.7908
3.6048
6.1051
6.3528
Present Value of $1
Future Amount of $1
Number of Years
10%
12%
10%
12%
1
0.9091
0.8929
1.1
1.12
2
0.8264
0.7972
1.21
1.2544
3
0.7513
0.7118
1.331
1.4049
4
0.683
0.6355
1.4641
1.5735
5
0.6209
0.5674
1.6105
1.7623
Required
1. Prepare a schedule showing the computation of the total amount received from the issuance of the serial bonds. Show supporting computations in good form.
2. Assume the company originally sold the bonds at a discount of $46,498. Prepare a schedule of amortization of the bond discount for the first two years after issuance, using the interest (effective rate) method. Show supporting computations in good form.
Comprehensive The Batson Corporation issued $800,000 of 12% face value bonds for $851,705.70. The bonds were dated and issued on April 1, 2007, are due March 31, 2011, and pay interest semiannually on September 30 and March 31. The company sold the bonds to yield 10%.
Required
1. Prepare a bond interest expense and premium amortization schedule using the straight line method.
2. Prepare a bond interest expense and premium amortization schedule using the effective interest method.
3. Prepare any adjusting entries for the end of the fiscal year, December 31, 2007, using:
a. The straight line method of amortization
b. The effective interest method of amortization
4. Assume the company retires the bonds on June 30, 2008, at 103 plus accrued interest. Prepare the journal entries to record the bond retirement using:
Comprehensive The Wilkerson Corporation issued $1 million of 13.5% bonds for $985,071.68. The bonds are dated and issued October 1, 2007, are due September 30, 2011, and pay interest semiannually on March 31 and September 30. Assume an effective yield rate of 14%.
Required
1. Prepare a bond interest expense and discount amortization schedule using the straight line method.
2. Prepare a bond interest expense and discount amortization schedule using the effective interest method.
3. Prepare adjusting entries for the end of the fiscal year December 31, 2007 using:
a. The straight line method of amortization
b. The effective interest method of amortization
4. If income before interest and income taxes of 30% in 2008 is $500,000, compute net income under each alternative.
5. Assume the company retired the bonds on June 30, 2008 at 98 plus accrued interest. Prepare the journal entries to record the bond retirement using:
a. The straight line method of amortization
b. The effective interest method of amortization
6. Compute the company’s times interest earned (pretax operating income divided by interest expense) under each alternative.
Convertible Bonds The Shank Corporation issued $1,500,000 of 10% convertible bonds for $1,620,000 on March 1, 2006. The bonds are dated March 1, 2006, pay interest semiannually on August 31 and February 28, and the premium is amortized using the straight line method. The bonds are due on February 28, 2016, and each $1,000 bond is convertible into 25 shares of Shank Corporation $10 par common stock. On March 1, 2008, when the shares were selling for $28 per share, $300,000 of bonds were converted. On September 1, 2010, when the shares were selling for $30 per share, the remainder of the bonds were converted.
Required
1. Prepare the journal entries to record each bond conversion using (a) the book value method, and (b) the market value method.
2. If the company were required under GAAP to assign a value to the conversion feature, explain how the valuation would be determined (no calculations are required).
3. Compute the company’s debt to equity ratio under each alternative. Assume the company’s other liabilities are $3 million, and that stockholders’ equity before conversion is $3.5 million.
Notes Receivable On January 1, 2007 the Somerville Corporation sold a used truck to the Cornelius Company and accepted a $28,000 non interest bearing note due January 1, 2010. Somerville carried the truck on its books at a cost of $30,000 and a current book value of $23,000. Neither the fair value of the truck nor the note was available at the time of the sale; however, Cornelius’s incremental borrowing rate was 12%.
Required
1. Prepare the journal entries on Somerville’s books to record:
a. The sale of the truck
b. The related adjusting entries on December 31, 2007, 2008, and 2009
c. The collection of the note on January 1, 2010
2. Prepare the notes receivable portion of Somerville’s December 31, 2007, 2008, and 2009 balance sheets.
Comprehensive Linden, Inc., had the following long term receivable account balances at December 31, 2006:
Note receivable from sale of division
$1,500,000
Note receivable from officer
400,000
Transactions during 2007 and other information relating to Linden’s long term receivables were as follows:
1. The $1,500,000 note receivable is dated May 1, 2006, bears interest at 9%, and represents the balance of the consideration received from the sale of Linden’s electronics division to Pitt Company. Principal payments of $500,000 plus appropriate interest are due on May 1, 2007, 2008, and 2009. The first principal and interest payment was made on May 1, 2007. Collection of the note installments is reasonably assured.
2. The $400,000 note receivable is dated December 31, 2004, bears interest at 8%, and is due on December 31, 2009. The note is due from Robert Finley, president of Linden, Inc., and is collateralized by 10,000 shares of Linden’s common stock. Interest is payable annually on December 31, and all interest payments were paid on their due dates through December 31, 2007. The quoted market price of Linden s common stock was $45 per share on December 31, 2007.
3. On April 1, 2007 Linden sold a patent to Bell Company in exchange for a $100,000 non interest bearing note due on April 1, 2009. There was no established exchange price for the patent, and the note had no ready market. The prevailing rate of interest for a note of this type at April 1, 2007 was 15%. The present value of $1 for two periods at 15% is 0.756. The patent had a carrying value of $40,000 at January 1, 2007, and the amortization for the year ended December 31, 2007 would have been $8,000. The collection of the note receivable from Bell is reasonably assured.
4. On July 1, 2007 Linden sold a parcel of land to Carr Company for $200,000 under an installment sale contract. Carr made a $60,000 cash down payment on July 1, 2007 and signed a four year, 16% note for the $140,000 balance. The equal annual payments of principal and interest on the note will be $50,000, payable on July 1, 2008 through July 1, 2011. The land could have been sold at an established cash price of $200,000. The cost of the land to Linden was $150,000. Circumstances are such that the collection of the installments on the note is reasonably assured.
Required
1. Prepare the long term receivables section of Linden’s balance sheet at December 31, 2007.
2. Prepare a schedule showing the current portion of the long term receivables and accrued interest receivable that would appear in Linden’s balance sheet at December 31, 2007.
3. Prepare a schedule showing interest income from the long term receivables and gains recognized on sale of assets that would appear on Linden’s income statement for the year ended December 31, 2007.
Comprehensive An examination of the accounting records of the Durham Corporation on January 1, 2008 (after reversing entries had been made for all accrued interest at the end of 2007) disclosed the following information regarding the company’s long term debt:
12.5% bonds, dated January 1, 2004, paying interest semiannually on June 30 and
December 31, and due December 31, 2010.
$1,300,000
11% convertible bonds, dated April 1, 2006, paying interest semiannually on March 31 and
September 30, and due March 31, 2011.
$500,000
Discount on convertible bonds payable
17,500
$482,500
9% bonds, dated March 1, 2007, paying interest annually on February 28, and due
February 28, 2012.
$100,000
Discount on bonds payable
3,960
$96,040
4 year, non interest bearing note issued January 1, 2007. (Durham’s incremental borrowing
rate on the date the note was issued was 10%.)
$80,000
Discount on note payable
19,895
$60,105
Additional information disclosed in the notes to Durham Corporation’s 2007 financial statements:
1. The conversion option allows the holder of each $1,000 bond to exchange it for 30 shares of $10 par common stock. Durham uses the book value method to record conversions of bonds to common stock.
2. Each $1,000 bond of the 9% bonds dated March 1, 2007 carries 15 detachable warrants. The company had recorded the 1,500 warrants on the bonds at $4,800 in a Common Stock Warrants account. The exchange of three warrants allows the holder to acquire one share of $10 par common stock for $27.
3. The discount on the convertible bonds and the discount on the 9% bonds with detachable warrants are being amortized using the straight line method.
4. The discount on the note payable is being amortized annually using the effective interest method. During 2008, the Durham Corporation engaged in the following long term debt transactions:
Jan. 1 Issued 11%, $800,000 face value bonds for $820,302, a price to yield 10%. Interest on these bonds is payable semiannually on June 30 and December 31, and they are due December 31, 2010. The effective interest method is to be used to amortize the premium. The bonds are callable at 107.
May 1 Six hundred warrants from the 9% bonds were exercised when the common stock was selling for $42 per share.
Sept. 29 Convertible bonds of $100,000 were exchanged when the common stock was selling for $45 per share.
Nov. 1 Retired $200,000 of the bonds issued on January 1, 2008, at the call price plus accrued interest.
Required
1. Prepare the journal entries for Durham Corporation to record all the transactions that occurred during 2008 relating to the preceding information.
2. Prepare the long term debt section of the Durham Corporation’s balance sheet on December 31, 2008.
Troubled Debt Restructuring (Debtor) The Oakwood Corporation is delinquent on a $2,400,000, 10% note to the Second National Bank that was due January 1, 2007. At that time Oakwood owed the principal amount plus $34,031.82 of accrued interest. Oakwood enters into a debt restructuring agreement with the bank on January 2, 2007.
Required
Prepare the journal entries for Oakwood to record the debt restructuring agreement and all subsequent interest payments assuming the following independent alternatives:
1. The bank extends the repayment date to December 31, 2010, forgives the accrued interest owed, reduces the principal by $200,000, and reduces the interest rate to 8%.
2. The bank extends the repayment date to December 31, 2010, forgives the accrued interest owed, reduces the principal by $200,000, and reduces the interest rate to 1%.
3. The bank accepts 160,000 shares of Oakwood’s $5 par value common stock, which is currently selling for $14.50 per share, in full settlement of the debt.
4. The bank accepts land with a fair value of $2,300,000 in full settlement of the debt. The land is being carried on Oakwood’s books at a cost of $2,200,000.
Comprehensive—Loan Impairment and Troubled Debt Restructuring – The 10th National Bank has a $200,000, 12% note receivable from the Priday Company that is due on December 31, 2010. On December 31, 2007 the company misses the interest payment due on that date. The bank expects that the company will also miss the next payment, but will pay the principal on the maturity date. On December 31, 2008 the company misses the interest payment due on that date. On December 31, 2009 the company pays half the interest payment due on that date and is not expected to pay the other half.
In early January 2010 the bank and the company agree to a loan restructuring because of the financial condition of the company. The bank forgives the unpaid interest, extends the loan to December 31, 2012, and reduces the interest rate to 6%. The market rate for the loan is estimated to be 10% at this time.
Required
1. Compute the value of the impaired loan on December 31, 2007.
2. Prepare the journal entries from 2007 to 2012 for the bank to record the above events.
Global Oil Company is a multinational firm that markets a variety of chemicals for industrial uses. One of the many autonomous divisions is the North America Petro Chemical Division (NAPCD). The manager of NAPCD, Carol Black, was recently overheard discussing a vexing problem with her controller, William Michaels. The topic of discussion was whether the division should replace its existing chemical handling equipment with newer technology that is safer, more efficient, and cheaper to operate. According to an analysis by Mr. Michaels, the cost savings over the life of the new technology would pay for the initial cost of the technology several times over. However, Ms. Black remained reluctant to invest. Her most fundamental concern involved the disposition of the old processing equipment. Because the existing equipment has been in use for only two years, it has a very high book value relative to its current market value. To illustrate, Ms. Black noted that if the new technology is not purchased, the division will earn a net income of $8,000,000 for the year. However, if the new technology is purchased, the old equipment will have to be sold, and Ms. Black noted that the division can probably sell the equipment for $2.4 million. This equipment has an original cost of $16 million and $3.0 million in depreciation has been recorded. Thus a book loss of $10.6 million ($13m _ $2.4m) would be recorded on the sale. Ms. Black’s boss, Jim Heitz, is the president of the Western Chemical Group, and his compensation is based almost exclusively on the amount of ROI generated by his group, which includes NAPCD. After thoroughly analyzing the facts, Ms. Black concluded, “The people in the Western Chemical Group will swallow their dentures if we book a $10.6 million loss.”
a. Why is Ms. Black concerned about the book loss on disposal of the old technology in her division?
b. What are the weaknesses in the performance pay plan in place for Western Chemical Group that are apparently causing Ms. Black to avoid an investment that meets all of the normal criteria to be an acceptable investment (ignoring the ROI effect)?
In the mid 1990s: Boston Scientific was giving Baxter International Inc. a run for its money. Boston Scientific, a small but growing maker of medical devices, didn’t compete directly with health care giant Baxter. But Baxter’s top executives were keenly watching the performance of their new rival. Their compensation, in part, was based on it.= Baxter’s payout of stock to its senior managers was linked to how the company’s shares perform compared with the Standard & Poor’s Medical Products and Supplies Index, which included the two companies plus seven others. It was the latest twist in executive pay: awarding stock benefits according to how well a corporation stacked up against its rivals. Many comparisons, like Baxter’s, are based on total shareholder return, though some used other measures such as return on assets. Whatever they used, the purpose was the same: to ensure that managers keep a gimlet eye on other companies competing for the same customer and investor dollars. Write a report in which you discuss the benefits and risks of evaluating and rewarding performance based on comparisons with competitors.
In the arena of worker compensation, there is no topic as hotly debated as the minimum wage law. In March 2000, the United States approved a $1 an hour increase in the minimum wage, which would be phased in over two years. By 2002, the minimum wage would be $6.15 per hour .Two arguments advanced in favor of increasing the minimum wage were(1) that “the minimum wage has fallen sharply in real (inflation adjusted) terms since 1991,” and (2) “that raising the minimum wage actually reduced unemployment.” However, virtually no facts exist to support the second argument and virtually all evidence suggests increases in the minimum wage cause loss of employment. Using concepts from this chapter prepare a report in which you explain why increases in the minimum wage are not desirable and how alternative mechanisms could be used to increase the compensation of lower paid workers.
In 2000, the lead story in your college newspaper reports the details of the hiring of the new football coach. The old football coach was fired for failing to win games and attract fans. In his last season his record was 1 win and 11 losses. The news story states that the new coach’s contract provides for a base salary of $200,000 per year plus an annual bonus computed as follows:
Win less than 5 games
$0
Win 5 to 7 games
$25,000
Win 8 games or more
75,000
Win 8 games and conference championship
$95,000
Win 8 games, win conference, get a bowl bid
150,000
The coach’s contract has essentially no other features or clauses. The first year after the new coach is hired, the football team wins 3 games and loses 8. The second year the team wins 6 games and loses 5. The third year the team wins 9 games, wins the conference championship, and is invited to a prestigious bowl. Shortly after the bowl game, articles appear on the front page of several national sports publications announcing your college’s football program has been cited by the National Collegiate Athletic Association (NCAA) for nine major rule violations including cash payoffs to players, playing academically ineligible players, illegal recruiting tactics, illegal involvement of alumni in recruiting, etc. All the national news publications agree that your college’s football program will be disbanded by the NCAA. One article also mentioned that during the past three years only 13 percent of senior football players managed to graduate on time. Additional speculation suggests the responsible parties including the coaching staff, athletic director, and college president will be dismissed by the board of trustees.
a. Compute the amount of compensation paid to the new coach in each of his first three years.
b. Did the performance measures in the coach’s contract foster goal congruence? Explain.
c. Would the coach’s actions have been different if other performance measures were added to the compensation contract? Explain. d. What performance measures should be considered for the next coach’s contract, assuming the football program is kept alive?
Coca Cola’s new chairman and chief executive officer, Douglas Daft, said he will tie his compensation to diversity goals and create an executive position to develop strategies for promoting minorities. The moves come as Coke faces a lawsuit by current and former African American employees accusing the soft drink company of racial bias. In a memo e mailed in March 2000 to employees worldwide, Mr. Daft said Coke will establish “a series of goals, objectives and targets” for achieving diversity throughout the company “over the next few months,” and that “everyone in the organization, including the CEO, will be held accountable for meeting them.” He added that his “success and compensation” will be tied to meeting the diversity goals, “and the same will be true throughout the management ranks.” .Assume the stock market reacted negatively to the news article. Discuss why the market might react this way.
b. Assume the stock market reacted positively to the news article. Discuss why the market might react this way.
c. Discuss any problems you perceive in tying diversity objectives to managerial rewards.
d. Is tying managerial rewards to diversity an ethical way to change managerial behaviors regarding hiring minorities?
In a survey, 649 managers responded to a questionnaire and provided their opinions from an ethical perspective as to the acceptability of manipulating accounting earnings to achieve higher managerial compensation. One of the questions dealt with the acceptability of changing a sales practice to pull some of next year’s sales into the current year so that reported current earnings could be pushed up. The results of the survey indicated that about 43 percent of the respondents felt this practice was ethically acceptable, 44 percent felt the practice was ethically questionable, and 13 percent felt the practice was ethically= unacceptable. Other results of the survey indicate the managers felt large manipulations were more unethical than small manipulations, and income increasing manipulations were more ethically unacceptable than income decreasing manipulations.
a. If managers are able to manipulate earnings to effect a change in their pay, is this a signal of a weakness in the pay for performance plan? Explain.
b. In your view, does the materiality of a manipulation partly determine the extent to which the manipulation is ethically acceptable?
c. Describe any circumstances in which you believe manipulations would be ethically acceptable.
When David P. Gardner, president of the University of California, announced his retirement unexpectedly in April 1992, he received a severance package worth $1 million—in a year in which the university’s budget was cut by $255 million. The university also announced that student fees would rise for the third straight year—for a three year total increase of 85 percent. Mr. Gardner, who retired early at age 58, earned an official salary of $243,500—double that of California’s governor. But his actual compensation was more than $400,000. And although his official pension would be $126,000 a year, he received an additional $933,000 when he departed. In addition to Mr. Gardner’s base salary, the regents found ways to pay him an additional $160,000 annually. Deferred income, severance pay, and a special supplemental retirement program made the difference. In fact, a secret deferred income plan was established by the regents in 1988 for about a dozen top UC executives, after a private study concluded that their compensation lagged behind that of top administrators in a nationwide comparison group of universities. (The conclusions of the study were challenged by the California Postsecondary Education Commission, an independent state agency.)
a. Assume you were one of the students in the UC system. Discuss your perceptions about Mr. Gardner’s compensation package.
b. How ethical do you think it was for Mr. Gardner to accept such a compensation package? Consider both the information in the comparative study and the budget problems that California was experiencing.
c. Could this simply be a case of trying to retain the “best and the brightest” in a not for profit institution? Discuss the rationale for your answer.
In the United States, accounting for inventory is a difficult issue. Inventory is comprised of those items either purchased or manufactured to be resold at a profit. Numerous methods are available to account for inventory for financial reporting purposes. A very commonly used method called LIFO (last in, first out) minimizes a company s tax obligation. In the United Kingdom, however, LIFO is not permitted for tax purposes and thus is not used very often for financial reporting. In Turkey, the use of LIFO is severely restricted, and in Russia, LIFO is a foreign term. Only in Germany, where the tax laws have been modified to allow the use of LIFO, is LIFO being adopted. Different accounting methods are available for numerous other issues in accounting. Identify some major problems associated with comparing the financial statements of companies from different countries.
Below is a condensed listing of the assets and liabilities of GENERAL MOTORS as of December 31, 1999. All amounts are in millions of U.S. dollars.
Assets
Liabilities
Cash
$21,250
Loans payable
$187,059
Loans receivable
80,627
Pensions
3,339
Inventories
10,638Other
retiree benefits
34,166
Property & equipment
69,186
Other liabilities
28,708
Other assets
92,572
Total assets
$274,273
Total liabilities
$253,272
1. Among its assets, General Motors lists more than $80 billion in loans receivable. This represents loans that General Motors has made and expects to collect in the future. This is exactly the kind of asset reported among the assets of banks. Given what you know about General Motors business, how do you think the company acquired these loans receivable?
2. The difference between the reported amount of General Motors assets and liabilities is $21.001 billion ($274.273 _ $253.272). What does this difference represent?
Should the SEC choose the FASB or the IASC? The SEC has received from Congress the legal authority to set accounting standards in the United States. Historically, the SEC has allowed the FASB to set those standards. In addition, the SEC has refused to allow foreign companies to seek investment funds in the United States unless they agree to provide U.S. investors with financial statements prepared using FASB rules. The number of foreign companies seeking to list their shares on U.S. stock exchanges is increasing. Even more would likely sell stock to the American public if the SEC were to agree to accept financial statements prepared according to usually less stringent IASC standards. Why do you think the SEC has so far insisted on financial statements prepared using FASB rules? Do you agree with its policy? Explain.
Oven Pies Ltd plans to buy a delivery van to distribute pies from the bakery to various neighbourhood shops. It will use the van for three years. The expected costs are as follows:
£
New van
15,000
Trade in price after 3 years
600
Service costs (every 6 months)
450
Spare parts, per 10,000 miles
360
Four new tyres, every 15,000 miles
1,200
Vehicle licence and insurance, per year
800
Fuel, per litre*
0.70
*Fuel consumption is 1 litre every five miles.
(a) Prepare a table of costs for mileages of 5,000, 10,000, 15,000, 20,000 and 30,000 miles per annum, distinguishing variable costs from fixed costs.
(b) Draw a graph showing variable cost, fixed cost and total cost.
(c) Calculate the average cost per mile at each of the mileages set out in (a).
(d) Write a short commentary on the behaviour of costs as annual mileage increases.
During the month of May, 4,000 metal towel rails were produced and 3,500 were sold. There had been none in store at the start of the month. There was no inventory (stock) of raw materials at either the start or end of the period. Costs incurred during May in respect of towel rails were as follows:
£
Metal piping
12,000
Wages to welders and painters
9,000
Supplies for welding
1,400
Advertising campaign
2,000
Production manager’s salary
1,800
Accounts department computer costs for dealing with production records
1,200
(a) Classify the list of costs set out above, into product costs and period costs.
(b) Explain how you would value inventory (stock) held at the end of the month.
Tots Ltd manufactures babies’ play suits for sale to retail stores. All play suits are of the same design. There are two departments: the cutting department and the machining department. You are asked to classify the costs listed below under the headings:
(a) Direct costs for the cutting department.
(b) Direct costs for the machining department.
(c) Indirect costs for the cutting department.
(d) Indirect costs for the machining department.
(e) Direct costs for the play suits.
(f ) Indirect costs for the play suits.
List of costs
(i) towelling materials purchased for making the play suits;
(ii) reels of cotton purchased for machining;
(iii) pop fasteners for insertion in the play suits;
(iv) wages paid to employees in the cutting department;
(v) wages paid to employees in the machining department;
(vi) salaries paid to the production supervisors;
(vii) oil for machines in the machining department;
(viii) rent paid for factory building;
(ix) depreciation of cutting equipment;
(x) depreciation of machines for sewing suits;
(xi) cost of providing canteen facilities for all staff.
In a general engineering works the following routine has been followed for several years to arrive at an estimate of the price for a contract. The process of estimating is started by referring to a job cost card for some previous similar job and evaluating the actual material and direct labour hours used on that job at current prices and rates. Production overheads are calculated and applied as a percentage of direct wages. The percentage is derived from figures appearing in the accounts of the previous year, using the total production overhead cost divided by the total direct wages cost. One third is added to the total production overhead cost to cover administrative charges and profit. You have been asked to draft a short report to management outlining, with reasons, the changes which you consider desirable in order to improve the process of estimating a price for a contract.
You have been asked for advice by the owner of a small business who has previously estimated overhead costs as a percentage of direct labour cost. This method has produced quite reasonable results because the products have all been of similar sales value and have required similar labour inputs. The business has now changed and will in future concentrate on two products. Product X is a high volume item of relatively low sales value and requires relatively little labour input per item. It is largely produced by automatic processes. Product Y is a low volume item of relatively high sales value and requires considerably more labour input by specially skilled workers. It is largely produced by manual craft processes. What advice would you give to the owner of the business about allocation of overhead costs comprising: a. the owner’s salary for administrative work; b. rent paid on the production facilities; and c. depreciation of production machinery? Compare the effect of having one overhead recovery rate for all three costs in aggregate, and the effect of identifying the factors which ‘drive’ each cost in relation to the production process.
Insulation Ltd has been established to manufacture insulation material for use in houses. At present, one machine is installed for production of insulation material. A further similar machine can be purchased if required. The first customer is willing to place orders in three different sizes at the following selling prices:
Order size
Selling price per package
£
430 packages per day
25.20
880 packages per day
25.00
1,350 packages per day
24.80
The customer will enter into an initial contract of 30 days’ duration and will uplift completed packages on a daily basis from the premises of Insulation Ltd.
The following assumptions have been made in respect of Insulation Ltd:
(a) In view of the competitive market the selling prices are not negotiable.
(b) Direct materials will cost £23.75 per package irrespective of the order size.
(c) The output of one machine will be 350 packages per shift.
(d) A maximum of three shifts will be available on a machine within one day. The depreciation charge for a machine will be £100 per day, irrespective of the number of shifts worked.
(e) Labour costs to operate a machine will be £100 for the first shift, £120 for the second shift and £160 for the third shift of the day. If labour is required for a shift, then the full shift must be paid for regardless of the number of packages produced.
(f) The total cost of supervising the employees for each of the first two shifts in any day will be £20 per machine. The supervision cost of the third shift will be £40 per machine.
(g) Other fixed overhead costs will be £280 per day if one machine is used. Buying and using an additional machine would result in a further £100 of fixed costs per day.
(h) Production and sales volume will be equal regardless of order size.
(i) The company does not expect to obtain other work during the term of the initial contract.
Required
Prepare a report for the production director of Insulation Ltd giving:
1 For each order size, details of the overall profitability per day and net profit per package.
2 An explanation of the differing amounts of profit per package.
The following report has been prepared for the production department of Cabinets Ltd in respect of the month of May Year 4:
Actual costs or quantities recorded
Variance £
Direct materials price
£2.80 per kg
2,240 favourable
Direct materials usage
11,200 kg
4,800 adverse
Direct labour rate
£9 per hour
5,600 adverse
Direct labour efficiency
3.5 hours per unit
6,400 adverse
Fixed overhead expenditure
£39,000
3,000 adverse
The department manufactures storage cabinets. When the budget was prepared, it was expected that 1,800 units would be produced in the month but, due to a machine breakdown, only 1,600 units were produced.
Required
(a) Reconstruct the original budget, giving as much information as may be derived from the data presented above.
(b) Provide an interpretation of the performance of the production department during the month of May Year 4.
The Notewon Corporation is a highly diversified company that grants its divisional executives a significant amount of authority in operating the divisions. Each division is responsible for its own sales, pricing, production, costs of operations, and the management of accounts receivable, inventories, accounts payable, and use of existing facilities. Cash is managed by corporate headquarters; all cash in excess of normal operating needs of the divisions is transferred periodically to corporate headquarters for redistribution or investment. The divisional executives are responsible for presenting requests to corporate management for investment projects. The proposals are analyzed and documented at corporate headquarters. The final decision to commit funds to acquire equipment, to expand existing facilities, or for other investment purposes rests with corporate management. The corporation evaluates the performance of division executives by the return on investment (ROI) measure. The asset base is composed of fixed assets employed plus working capital exclusive of cash. The ROI performance of a divisional executive is the most important appraisal factor for salary changes. In addition, the annual performance bonus is based on the ROI results with increases in ROI having a significant impact on the amount of the bonus. The Notewon Corporation adopted the ROI performance measure and related compensation structure about 10 years ago. The corporation did so to increase the awareness of divisional management of the importance of the profit/asset relationship and to provide additional incentive to the divisional executives to seek investment opportunities. The corporation seems to have benefited from the program. The ROI for the corporation as a whole increased during the first years of the program. Although ROI has continued to grow in each division, the corporate ROI has declined in recent years. The corporation has accumulated a large amount of cash and short term marketable securities in the past three years. Corporate management is concerned about the increase in the short term marketable securities. A recent article in a financial publication suggested that the use of ROI was overemphasized by some companies with results similar to those experienced by Notewon.
a. Describe the specific actions division managers might have taken to cause the ROI to grow in each division but decline for the corporation. Illustrate your explanations with appropriate examples.
b. Explain, using the concepts of goal congruence and motivation of divisional executives, how Notewon Corporation’s overemphasis on the ROI measure might result in the recent decline in the corporation’s return on investment and the increase in cash and short term marketable securities.
c. Discuss how divisional statements of cash flows might provide some additional useful information to divisional executives and corporate management.
d. What changes could be made in Notewon Corporation’s compensation policy to avoid the current problems? Explain your answer. (CMA adapted)
Terry Travers is the manufacturing supervisor of the Aurora Manufacturing Company, which produces a variety of plastic products. Some of these products are standard items that are listed in the company’s catalog, whereas others are made to customer specifications. Each month, Travers receives a performance report displaying the budget for the month, the actual activity for the period, and the variance between budget and actual. Part of Travers’ annual performance evaluation is based on his department’s performance against budget. Aurora’s purchasing manager, Bob Christensen, also receives monthly performance reports and is evaluated in part on the basis of these reports. The most recent monthly reports had just been distributed, on the 21st of the month, when Travers met Christensen in the hallway outside their offices. Scowling, Travers began the conversation, “I see we have another set of monthly performance reports hand delivered by that not very nice junior employee in the budget office. He seemed pleased to tell me that I was in trouble with my performance again.” Christensen: “I got the same treatment. All I ever hear about are the things I haven’t done right. Now, I’ll have to spend a lot of time reviewing the report and preparing explanations. The worst part is that the information is almost a month old, and we spend all this time on history.” Travers: “My biggest gripe is that our production activity varies a lot from month to month, but we’re given an annual budget that’s written in stone. Last month, we were shut down for three days when a strike delayed delivery of the basic ingredient used in our plastic formulation, and we had already exhausted our inventory. You know that, of course, since we had asked you to call all over the country to find an alternate source of supply. When we got what we needed on a rush basis, we had to pay more than we normally do. ”Christensen: “I expect problems like that to pop up from time to time— that’s part of my job—but now we’ll both have to take a careful look at the report to see where charges are reflected for that rush order. Every month, I spend more time making sure I should be charged for each item reported than I do making plans for my department’s daily work. It’s really frustrating to see charges for things I have no control over.” Travers: “The way we get information doesn’t help, either. I don’t get copies of the reports you get, yet a lot of what I do is affected by your department, and by most of the other departments we have. Why do the budget and accounting people assume that I should be told only about my operations even though the president regularly gives us pep talks about how we all need to work together as a team?” Christensen: “I seem to get more reports than I need, and I am never getting asked to comment until top management calls me on the carpet about my department’s shortcomings. Do you ever hear comments when your department shines?” Travers: “I guess they don’t have time to review the good news. One of my problems is that all the reports are in dollars and cents. I work with people, machines, and materials. I need information to help me solve this month’s problems—not another report of the dollars expended last month or the month before.”
a. Based on the conversation between Terry Travers and Bob Christensen, describe the likely motivation and behavior of these two employees resulting from the Aurora Manufacturing Company’s performance reporting system.
b. When properly implemented, both employees and companies should benefit from performance reporting systems.
1. Describe the benefits that can be realized from using a performance reporting system.
2. Based on the situation presented above, recommend ways for Aurora Manufacturing Company to improve its performance system so as to increase employee motivation. (CMA adapted)
Northstar Offroad Company (NOC), a subsidiary of Allston Automotive, manufactures go carts and other recreational vehicles. Family recreational centers that feature go cart tracks, miniature golf, batting cages, and arcade games have increased in popularity. As a result, NOC has been receiving some pressure from Allston Automotive top management to diversify into some of these other recreational areas. Recreational Leasing Inc. (RLI), one of the largest firms that leases arcade games to family recreation centers, is looking for a friendly buyer. Allston Automotive management believes that RLI’s assets could be acquired for an investment of $3.2 million and has strongly urged Bill Grieco, division manager of NOC, to consider acquiring RLI. Grieco has reviewed RLI’s financial statements with his controller, Marie Donnelly, and they believe that the acquisition may not be in the best interest of NOC. “If we decide not to do this, the Allston Automotive people are not going to be happy,” said Grieco. “If we could convince them to base our bonuses on something other than return on investment, maybe this acquisition would look more attractive. How would we do if the bonuses were based on residual income using the company’s 15 percent cost of capital?” Allston Automotive has traditionally evaluated all of its divisions on the basis of return on investment, which is defined as the ratio of operating income to total assets; the desired rate of return for each division is 20 percent. The management team of any division reporting an annual increase in the return on investment is automatically eligible for a bonus. The management of divisions reporting a decline in the return on investment must provide con vincing explanations for the decline to be eligible for a bonus, and this bonus is limited to 50 percent of the bonus paid to divisions reporting an increase. Following are condensed financial statements for both NOC and RLI for the fiscal year ended May 31, 2000.
NOC
RLI
Sales revenue
$10,500,000
Leasing revenue
$2,800,000
Variable expenses
7,000,000
1,000,000
Fixed expenses
1,500,000
1,200,000
Operating income
$2,000,000
$600,000
Current assets
$2,300,000
$1,900,000
Long term assets
5,700,000
1,100,000
Total assets
$8,000,000
$3,000,000
Current liabilities
$1,400,000
$850,000
Long term liabilities
3,800,000
1,200,000
Shareholders’ equity
2,800,000
950,000
Total liabilities and shareholders’ equity
$8,000,000
$3,000,000
a. Under the present bonus system, how would the acquisition of RLI affect Mr. Grieco’s bonus expectations?
b. If Mr. Grieco’s suggestion to use residual income as the evaluation criterion is accepted, how would acquisition of RLI affect Mr. Grieco’s bonus expectations?
c. Given the present bonus arrangement, is it fair for Allston Automotive management to expect Mr. Grieco to acquire RLI? Explain.
d. Is the present bonus system consistent with Allston Automotive’s goal of expansion of NOC into new recreational products? Why or why not? (CMA adapted)
International Glass manufactures a variety of glass products having both commercial and household applications. One of its newest divisions, Fiber Optic, manufactures fiber optic cable and other high tech products. Recent annual operating results (in millions) for Fiber Optic and two older divisions follow:
Fiber Optic
Industrial Glass
Flatware
Sales
$250
$900
$750
Segment income
25
92
85
International Glass uses economic value added (EVA) as its only segment performance measure. Jim Wilson, CEO of International Glass, posed some serious questions in a memo to his controller, Janie Ware, after studying the operating results. After pondering the memo and studying the operating results, Janie Ware passed the memo and operating results to you, her newest hire in the controller’s office and asked you to respond to the following questions.
a. Why would the use of EVA discourage a high growth strategy?
b. Could the concept of the balanced scorecard be used to encourage a higher rate of growth in Fiber Optics? Explain.
Could any philosophy or cast of mind be seen as more vile these days than that of being “antibusiness”? It is like being “soft on communism” back when there were communists to be soft on. And according to prominent corporate executives, an antibusiness view, disgraceful and opprobrious though it may be, has permeated an unlikely home—the Financial Accounting Standards Board. This seemingly banal organization, which sets the rules governing corporate accounting, reflects “an implicit antibusiness bias.” It fails to recognize “business reality” and is unresponsive to business’s “valid concerns.” This broadside has been leveled by the Financial Executives Institute, a 14,000 member corporate executives group, and it is only the latest in a series of attacks on FASB from business. . . . But what gives rise to the “antibusiness” rhetoric and the overall virulence of the FEI attack? P. Norman Roy, its president, said his members think FASB has become an accounting “policeman” (a role he would prefer to see played by individual auditors). FASB’s thick encyclicals, he added, are too “prescriptive.” Naturally, executives want flexibility over how they report earnings.
a. Why would corporate executives desire more flexibility in how they report earnings?
b. How would more managerial flexibility in the reporting of accounting data affect the quality of accounting information?
c. What are the ethical obligations of the FASB in setting rules for reporting financial information?
Bailey Manufacturing has just initiated a formula bonus plan whereby plant managers are rewarded for various achievements. One of the current criteria for bonuses is the improvement of asset turnover. The plant manager of the Carson City Plant told Horace Appleby, his young assistant, to meet him Saturday when the plant is closed. Without explanation, the plant manager specified that certain raw materials were to be loaded on one of the plant’s dump trucks. When the truck was loaded, the plant manager and Horace drove to a secluded mountain road where, to Horace’s astonishment, the plant manager flipped a switch and the truck dumped the raw materials down a steep ravine. The plant manager grinned and said that these were obsolete raw materials and the company would run more smoothly without them. For the next several weekends, Horace observed the plant manager do the same thing. The following month, the plant manager was officially congratulated for improving asset turnover.
a. How did the dumping improve asset turnover?
b. What are the ethical problems in this case?
c. What are Horace’s options? Which should he choose and why?
Manhattan Electronics Corporation produces a variety of computer products. Recently the firm has revealed plans to expand into new office automation products. To realize the expansion plans, the firm will need to go to the stock market for additional capital in October of this year. Present plans call for raising $200,000,000 in new common equity. Historically, the firm’s small notebook computer has been a significant contributor to corporate profits. However, a competitor has recently introduced a notebook model that has rendered Manhattan Electronic’s notebook computer obsolete. At some point, the controller has informed the president, the inventory of notebooks needs to be “written down” to realizable value. Because Manhattan Electronics has a large inventory of the notebooks on hand, the write down will have a very detrimental effect on both the balance sheet and income statement. The president, whose compensation is determined in part by corporate profits and in part by stock price, has suggested that the write downs be deferred until the next fiscal year (next January). He argues that, by deferring the write down, existing shareholders will realize more value from the shares to be sold in October because the stock market will not be informed of the pending write downs.
a. What effects are the performance evaluation measures of the president likely to have on his decision to defer the write down of the obsolete inventory?
b. Is the president’s decision to defer the write down of the inventory an ethical treatment of existing shareholders? Of potential new shareholders?
c. If you were the controller of Manhattan Electronics, how would you respond to the president’s decision to defer the write down until after issuance of the new stock?
A typical executive is in his mid 40’s, frequently travels on business, says he values “self respect,” and is very likely to commit financial fraud. That, anyway, is the conclusion of four business school professors, whose study on fraud was published in the February issue of the Journal of Business Ethics. After getting nearly 400 people (more than 85% of them men) over the past seven years to play the role of a fictional executive named Todd Folger, the professors found that 47% of the top executives, 41% of the controllers and 76% of the graduate level business students they surveyed were willing to commit fraud by understating write offs that cut into their companies’ profits.
a. What creates the incentive for managers to understate write offs?
b. How does the use of accounting as a performance measurement system of managers affect the objectivity of accounting information?
c. What are the ethical obligations of accountants in dealing with managers who desire to manipulate accounting information for their personal benefit?
Ishmal Cannery packs dates for worldwide shipment. The owner has asked you to analyze the cannery’s throughput. You find that in June, the cannery generated the following:
Cans packed and shipped
$30,000
Total cans (some defective)
37,500
Value added processing time
12,500 hours
Total processing time
48,000 hours
a. Calculate the manufacturing cycle efficiency.
b. Calculate the process productivity.
c. Calculate the process quality yield.
d. Calculate the throughput using only good units and total time.
e. Verify your answer to part (d) by using your answers to parts (a), (b), and (c).
You and three friends have just started a company called “Hot Stuf” that produces hot sauce. You intend to sell your product through grocery stores and on the Internet. Before you begin hiring employees, you believe that the company needs mission, vision, and values statements. Prepare these statements for the company and provide the logic behind the statements.As the new controller of your company, you have been asked by the company president to comment on any deficiencies of the firm. After saying you believe that the firm needs long run performance measurements, the president says that the long run is really just a series of short runs. He says that if you do a good job of evaluating these short run performances, that the long run will take care of itself. He sees that you are unconvinced and agrees to keep an open mind if you can make a good case for measuring and evaluating long run performance. He suggests that you prepare a report stating your case.
Historically, Kaleidoscope Corp. has evaluated divisional performance on financial measures. Top managers are now seeking alternative measures that more accurately assess success in the activities that generate customer value. One promising measure is throughput. Management has gathered the following information on one of its larger operating divisions:
Units started and completed
60,000
Total good units completed
39,000
Total value added hours of processing time
24,000
Total hours of divisional time
36,000
a. What is the division’s manufacturing cycle efficiency?
b. What is the division’s process productivity?
c. What is the division’s process quality yield?
d. What is the total hourly throughput?
e. What can Kaleidoscope Corp.’s management do to raise hourly throughput?
Maria Rocco is concerned about the quantity of goods being produced by the Latin American Division of Auto World. The following production data are available for April 2001:
60,000
Total good units completed
47,500
Total value added hours of processing time
15,000
Total hours of division time
56,000
Determine each of the following for this division for April.
a. What is the manufacturing cycle efficiency?
b. What is the process productivity?
c. What is the process quality yield?
d. What is the total throughput per hour?
e. If only 22,500 of the units produced in April had been sold, would your answers to any of the above questions differ? If so, how? If not, why not? f. If Rocco can eliminate 20 percent of the non value added time, how would throughput per hour for these data differ?
g. If Rocco can increase quality output to a yield of 94 percent and eliminate 20 percent of the non value added time, how would throughput per hour for these data differ?
h. How would Rocco determine how the non value added time was being spent in the division? What suggestions do you have to decrease non value added time and increase yield?
A few New Orleans hoteliers reneged on promises to set aside hotel rooms for the National Football League’s Super Bowl XXXI, a senior NFL executive and New Orleans tourism executives said. Tourism officials said they feared the conflict created ill will with the football league, which could make future Super Bowls more difficult to land. According to Jim Steeg, director of special events for the NFL, several hoteliers decided to ignore the promise and sell about 400 [of approximately 15,000] rooms reserved for the NFL.
a. Discuss the strategy of the hotels reneging on their promise to the NFL. Do you think that these hotels are considering the long run implications of their actions?
b. Is it possible for a few hotels to hurt the larger community in which they operate? How or why?
c. Suggest an alternative strategy to the managers of these hotels.
Larry Smith is a division manager of Carroll Manufacturing Inc. Mr. Smith is presently evaluating a potential revenue generating investment that has the following characteristics: An initial cost of $1,000,000 and net annual increase in divisional income before consideration of depreciation:
Year 1
$100,000
Year 2
$150,000
Year 3
$190,000
Year 4
800,000
Year 5
800,000
The project would have a five year life with no salvage value. All assets are depreciated according to the straight line method. Mr. Smith is evaluated and compensated based on the amount of pretax profit his division generates. More precisely, he receives an annual salary of $300,000 plus a bonus equal to 2 percent of divisional pretax profit. Before consideration of the above project, Mr. Smith anticipates that his division will generate $2,000,000 in pretax profit.
a. Compute the effect of the new investment on the level of divisional pretax profits for years 1 through 5.
b. Determine the effect of the new project on Mr. Smith’s compensation for each of the five years.
c. Based on your computations in part (b), will Mr. Smith be hesitant to invest in the new project? Explain.
d. Would upper management likely view the new investment favorably? Explain.
Why would anybody who runs a hot Internet start up firm that’s about to go public choose to get a fat salary, and not just wait for the usual stock windfall after the offering? Why not, when you can get both? To the consternation of many venture capitalists, potential investors and executive recruiters, that’s exactly what has happened at Digital Entertainment Network Inc. The company, one of the first pure entertainment Internet start ups that has filed for an initial public stock offering, has the Internet world buzzing about the huge, Hollywood style salaries the company is paying to its top executives, alongside stock and options grants.
a. As an investor in this start up enterprise, how would you interpret the payment of a large salary in addition to stock and options to the top executives?
b. What changes in compensation structure would you make in this firm if you were given the opportunity?
Big Green Inc. has operations in 13 states. Big Green is in the business of growing soybeans and processing the beans into two products: soybean oil and soybean meal. These products are then sold for various commercial uses. Operations in each state are under the control of an autonomous state manager whose performance is evaluated (in large part) based on the magnitude of annual profit. State managers typically receive an annual bonus equal to 1 percent of net state profits. The manager of North Carolina operations is Beano DuMars. Beano has just turned 63 years old and has been with Big Green for 39 years. He would like to sell his existing bean crusher and purchase a new, technologically superior one. To evaluate the feasibility of such a move, Beano’s controller prepared the information presented below. This information has created a tremendous dilemma for Beano.
Incremental cost of the new crusher
$1,000,000
Expected remaining life of the old crusher
5 years
Expected life of the new crusher
5 years
Expected effect of the new crusher on net profit for the next 5 years:
Year 1: Decrease in operating costs
300,000
Loss on disposal of old crusher
750,000
Net decrease in profit
($450,000)
Year 2: Net increase in profit
$200,000
Year 3: Net increase in profit
200,000
Year 4: Net increase in profit
255,000
Year 5: Net increase in profit
$300,000
a. Assume Beano expects to retire when he reaches age 65. Compute the effect of purchasing the new crusher on Beano’s divisional profit and his compensation over his remaining career with Big Green.
b. If Beano had just turned 60 rather than 63, what would be the effect of purchasing the new crusher on Beano’s compensation over his remaining career?
c. Is Beano’s age likely to be an important factor in his decision regarding the purchase of the new crusher?
d. Would Beano’s superiors prefer that he purchase the new crusher? Explain.
Compensation consultant Craig Schneier describes an experience by one of his clients who decided to pay the purchasing department employees bonuses if they kept the cost of purchases down: The problem was, to make that happen they were relying on second tier sources and accepting poor quality materials. The company was in the middle of a very big order, and the fasteners were lousy and ended up costing millions of dollars, while the [purchasing] department walked away with big bonuses.
a. Using the plan–performance–reward model in Exhibit 21–1, identify where the company described above went awry in structuring the performance based pay plan.
b. How can the company use the feedback received regarding the purchasing department’s performance to improve the design of the pay plan?
c. How could the purchasing department’s behavior be changed by combining the purchasing department with the production department for group level performance evaluation purposes?
Salaries for CFOs of multi billion dollar U.S. corporations rose 7% in 1999 to about $466,000, but that figure was only 20% of their average overall compensation of $2.37 million. The other 80% represented variable components— stock options (47%), annual incentives (17%), and long term incentives (16%). “CFOs hold a solid position among the ranks of executives rewarded more like owners than employees. The only other executives with a higher level of compensation at risk were CEOs, whose variable portion of pay amounted to 88%,” said Steven E. Hall, managing director of Pearl Meyer & Partners, executive compensation consultants.
a. What does the high portion of variable CFO pay indicate about the importance of CFOs to their organizations?
b. Discuss any concerns investors might have about such a high percentage of CFO pay being variable.
Laura McAntee was just hired as the assistant treasurer of Dorchester Stores. The company is a specialty chain store with nine retail stores concentrated in one metropolitan area. Among other things, the payment of all invoices is centralized in one of the departments Laura will manage. Her primary responsibility is to maintain the company’s high credit rating by paying all bills when due and to take advantage of all cash discounts.
Danny Feeney, the former assistant treasurer who has been promoted to treasurer, is training Laura in her new duties. He instructs Laura that she is to continue the practice of preparing all checks “net of discount” and dating the checks the last day of the discount period. “But,” Danny continues, “we always hold the checks at least 4 days beyond the discount period before mailing them. That way, we get another 4 days of interest on our money. Most of our creditors need our business and don’t complain. And, if they scream about our missing the discount period, we blame it on the mail room or the post office. We’ve only lost one discount out of every hundred we take that way. I think everybody does it. By the way, welcome to our team!”
Instructions
(a) What are the ethical considerations in this case?
(b) Who are the stakeholders that are harmed or benefitted in this situation?
(c) Should Laura continue the practice started by Danny? Does she have any choice?
There are many situations in business where it is difficult to determine the proper period in which to record revenue. Suppose that after graduation with a degree in finance, you take a job as a manager at a consumer electronics store called Atlantis Electronics. The company has expanded rapidly in order to compete with Best Buy. Atlantis has also begun selling gift cards for its electronic products. The cards are available in any dollar amount and allow the holder of the card to purchase an item for up to 2 years from the time the card is purchased. If the card is not used during that 2 years, it expires.
Instructions
Answer the following questions.
At what point should the revenue from the gift cards be recognized? Should the revenue be recognized at the time the card is sold, or should it be recorded when the card is redeemed? Explain the reasoning to support your answers.
Cal Engineering has two divisions that are operated as investment centers. Information about these divisions is shown below.
Division 1
Division 2
Sales
$600,000
$1,050,000
Total variable costs
150,000
717,500
Total fixed costs
350,000
125,000
Average assets invested
550,000
1,525,000
a. What is the residual income of each division if the “charge” on invested assets is 10 percent? Which division is doing a better job?
b. If the only change expected for next year is a sales increase of 15 percent, what will be the residual income of each division? Which division will be doing a better job financially?
c. Why did the answers to the second questions in parts (a) and (b) differ?
Sarah Birch is a division manager of Georgia Pine Inc. She is presently evaluating a potential revenue generating investment that has an initial cost of $8,000,000 and the following characteristics: Net annual increase in divisional income before consideration of depreciation:
Year 1
$800,000
Year 2
1,200,000
Year 3
1,520,000
Year 4
6,400,000
Year 5
6,400,000
The project would have a 5 year life with no salvage value. All assets are depreciated according to the straight line method. Sarah is evaluated and compensated based on the amount of pretax profit her division generates. More precisely, she receives an annual salary of $150,000 plus a bonus equal to 8 percent of divisional segment income. Before consideration of the above project, Sarah anticipates that her division will generate $9,200,000 in pretax profit.
a. Compute the effect of the new investment on the level of divisional pretax profits for years 1 through 5.
b. Determine the effect of the new project on Sarah’s compensation for each of the five years.
c. Based on your computations in part (b), will Sarah be hesitant to invest in the new project? Explain.
d. Would upper management likely view the new investment favorably? Explain.
Houston Property Management provides management services for a variety of commercial real estate development projects. The firm has recently created a new division to market video game services to the company”s existing clients. The new division will purchase and maintain the video equipment that is placed in client buildings. Clients will be paid 20 percent of gross video equipment revenues. Assume that you have been hired as a management consultant by Houston= Property Management. You have been charged with the task of preparing a written report recommending performance measures to be used to monitor and evaluate the success of the new division and its manager. Begin your report with a discussion of your perception of the strategic mission of the new division.
Oklahoma Pipeline Services (OPS) is a division of Ardmore Petroleum. Prior to the current year, the manager of OPS and corporate managers agreed to a target ROI for OPS of 13 percent. Subsequently, an incentive pay contract was executed between Gerome Green, the manager of OPS, and corporate management. The contract stipulated that in the event OPS achieved an ROI of 13 percent, certain bonus payments would be made to Mr. Green. Any achieved ROI below 13 percent would result in no bonus payments. At year end, the measured ROI of OPS was 5 percent Mr. Green has approached corporate management with the following information as the basis of arguing that he deserves a bonus payment for the year, despite the fact that his division failed to meet the stipulated 13 percent ROI. ROI of top competitor for the year 2.7% Average ROI in the industry for the year _2.9% You have been selected to be an arbitrator between Mr. Green and Ardmore Petroleum’s top managers. Prepare a brief oral report in which you interpret the meaning of the additional information provided by Mr. Green.
Training Services Ltd. has two divisions= operating in the management training field. One division, Domestic, operates strictly in the United States; the other division, Foreign, operates exclusively in the Pacific Rim countries. Both divisions are evaluated, in part, based on a measure of ROI. For the most recent year, Domestic’s ROI was 14 percent and Foreign’s ROI was 8 percent. One of the tasks of upper management is to evaluate the relative performance of the divisions so that an appropriate performance pay bonus can be determined for each manager. In evaluating relative performance, provide arguments as to why the determination of relative performance should
a. include a comparison of the ROI measures of the two divisions.
b. not include a comparison of ROI measures of the two divisions.
A number of transactions follow that affect a specific division within a multiple division company. For each transaction described, indicate whether the transaction would increase (IN), decrease (D), have no effect (N), or have an indeterminate (I) effect on the following measures: asset turnover, profit margin, ROI, and RI for the present fiscal year. Each transaction is independent.
a. The division writes down an inventory of obsolete finished goods. The
journal entry is
Cost of Goods Sold
80,000
Finished Goods Inventory
80,000
b. A special overseas order is accepted. The sales price for this order is well below the sales price on normal business but is sufficient to cover all costs traceable to this order.
c. A piece of equipment is sold for $150,000. The equipment’s original cost was $900,000. At the time of sale, the book value of the equipment is $180,000. The sale of the equipment has no effect on product sales.
d. The division fires its R&D manager. The manager will not be replaced during the current fiscal year.
e. The company raises its target rate of return for this division from 10 to 12 percent.
f. At midyear, the divisional manager decides to increase scheduled annual production by 1,000 units. This decision has no effect on scheduled sales.
g. During the year, the division manager spends an additional $250,000 on advertising. Sales immediately increase thereafter.
h. The divisional manager replaces a labor intensive operation with machine
technology. This action has no effect on sales, but total annual expenses of the operation are expected to decline by 10 percent.
The Chicago Trading and Production Company is a large, divisionalized manufacturing company. Each division is viewed as an investment center and has virtually complete autonomy for product development, marketing, and production. Performance of division managers is evaluated periodically by senior management. Divisional economic value added (EVA) is the sole criterion used in performance evaluation under current corporate policy. Corporate management believes EVA is an adequate measure because it incorporates quantitative information from the divisional income statement and balance sheet in the analysis. Some division managers complained that a single criterion for performance evaluation is insufficient and ineffective. These managers have compiled a list of criteria that they believe should be used in evaluating a division manager’s performance. The criteria include profitability, market position, productivity, product leadership, personnel development, employee attitudes, public responsibility, and balance between short range and long range goals.
a. Discuss the shortcomings or possible inconsistencies of using economic value added as the sole criterion to evaluate divisional management performance.
b. Discuss the advantages of using multiple criteria such as a balanced scorecard versus a single criterion to evaluate divisional management performance.
c. Discuss some ways in which each of the multiple criteria listed by the managers could be evaluated.
d. Describe the problems or disadvantages that can be associated with the implementation of the multiple performance criteria measurement system suggested to the Chicago Trading and Production Company by its division managers. (CMA adapted)
The Management Consulting Division (MCD) of Total Financia Services is evaluated by corporate management based on the profits it generates. Budgeted pretax income is the benchmark performance measure. For 2001, the budgeted income statement for MCD was as follows:
Sales
$6,000,000
Variable costs
4,200,000
Contribution margin
$1,800,000
Fixed costs
1,200,000
Pretax income
$600,000
At the end of 2001, the actual results for MCD were determined. Those results follow:
Sales
$6,500,000
Variable costs
4,875,000
Contribution margin
$1,625,000
Fixed costs
1,205,000
Pretax income
$420,000
a. Based on the preceding information, evaluate the performance of MCD. What was the principal reason for the poor profit performance?
b. Why do complete income statements provide a more complete basis for evaluating the profit performance of a manager than mere comparisons of the bottom lines of the budgeted and actual income statements?
Lois Harvak, the controller of California Mining Co., has become increasingly disillusioned with the company’s system of evaluating the performance of profit centers and their managers. The present system focuses on a comparison of budgeted to actual income from operations. Ms. Harvak’s major concern with the current system is the ease with which the measure “income from operations” can be manipulated by profit center managers. Most corporate sales are made on credit and most purchases are made on account. The profit centers are organized according to product line. Below is a typical quarterly income statement for a profit center, Mine #107, that appears in the responsibility report for the profit center:
Sales
$11,000,000
Cost of goods sold
9,000,000
Gross profit
$2,000,000
Selling and administrative expenses
1,500,000
Income from operations
$500,000
Ms. Harvak has suggested to top management that the company replace the accrual income evaluation measure, “income from operations,” with a measure called “cash flow from operations.” Ms. Harvak suggests that this measure will be less susceptible to manipulation by profit center managers. To defend her position, she compiles a cash flow income statement for the same profit center:
Cash receipts from customers
$8,800,000
Cash payments for production labor, materials, and overhead
7,200,000
Cash payments for selling and administrative activities
1,400,000
Cash flow from operations
$200,000
a. If Ms. Harvak is correct about profit center managers manipulating the income measure, where are manipulations likely taking place?
b. Is the proposed cash flow measure less subject to manipulation than the income measure?
c. Could manipulation be reduced if both the cash flow and income measures were utilized? Explain.
d. Do the cash and income measures reveal different information about profit center performance?
e. Could the existing income statement be used more effectively in evaluating performance? Explain.
Mechanical System’s controller prepared the following Statements of Cash Flows (in thousands of dollars) for the past two years, the current year and the upcoming year (2001):
BUDGET
Net cash flows from operating activities
Net income
$41,700
$39,200
$43,700
$45,100
Add net reconciling items
2,200
4,300
3,000
4,000
Total
$43,900
$43,500
$46,700
$49,100
Net cash flows from investing activities
Purchase of plant and equipment
($18,700)
($12,200)
($4,600)
Sale (purchase) of investments
8,700
($3,600)
12,600
15,800
Other investing inflows
1,200
800
600
2,400
Total
($8,800)
($2,800)
($24,200)
($18,000)
Net cash flows from financing activities
Payment of notes payable
($12,000)
($24,000)
($15,000)
($7,000)
Payment of dividends
20,000
7,000
13,300
20,000
Total
($32,000)
($31,000)
($28,300)
($27,000)
Net change in cash
$3,100
$9,700
($5,800)
$4,100
After preparation of the above budgeted SCF for 2001, Leslie Nelson, the company president, asked you to recompile it based on a separate set of facts. She is evaluating a proposal to purchase a local area network (LAN) computer system for the company at a total cost of $50,000. The proposal has been deemed to provide a satisfactory rate of return. However, she does not want to issue additional stock and she would prefer not to borrow any more money to finance the project. Projecting the market value of the accumulated investments for the previous three years ($3,600 and $12,600) reveals an estimate that these investments could be liquidated for $18,400. Ms. Nelson said the investments scheduled for 2001 did not need to be purchased and that dividends could be reduced to 40 percent of the budgeted amount. These are the only changes that can be made to the original forecast.
a. Evaluate the cash trends for the company during the 1998–2000 period.
b. Giving effect to the preceding changes, prepare a revised 2001 budgeted Statement of Cash Flows and present the original and revised in a comparative format.
c. Based on the revised budgeted SCF, can the LAN computer system be purchased if Ms. Nelson desires an increase in cash of at least $1,000?
d. Comment on the usefulness of the report prepared in part (b) to Leslie Nelson.
Hearne Hardware operates a chain of lumber and hardware stores. For 2001, corporate management examined industry level data and determined the following performance targets for lumber retail stores:
Asset turnover
2.7
Profit margin
7%
The actual 2001 results for the lumber retail stores are summarized below:
Total assets at beginning of year
$10,200,000
Total assets at end of year
12,300,000
Sales
26,250,000
Operating expenses
23,885,000
a. For 2001, how did the lumber retail stores perform relative to their industry norms?
b. Where, as indicated by the performance measures, are the most likely areas to improve performance in the retail lumber stores?
c. What are the advantages and disadvantages of setting a performance target at the start of the year compared with one that is determined at the end of the year based on actual industry performance?
Daunita White manages a division of Miami Chemical. She is evaluated on the basis of return on investment and residual income. Near the end of November 2001, Ms. White was at home reviewing the division’s financial information as well as some activities projected for the remainder of the year. The information she was reviewing is given below.
1. Sales for the year are projected at 100,000 units. Each unit has a selling price of $30. Ms. White has received a purchase order from a new customer for 5,000 units. The purchase order states that the units should be shipped on January 3, 2002, for arrival on January 5.
2. The division had a beginning inventory for the year of 500 units, each costing $10. Purchases of 99,500 units have been made steadily throughout the year, and the cost per unit has been constant at $10. Ms. White intends to make a purchase of 5,200 units before year end. This purchase will leave her with a 200 unit balance in inventory after she makes the shipment to the new customer. Carrying costs for the units are quite high, but ordering costs are extremely low. The division uses a LIFO cost flow assumption for inventory.
3. Ms. White has just received a notice from her primary supplier that he is going out of business and is selling his remaining stock of 15,000 units for $9.00 each. Ms. White makes a note to herself to place her final order for the year from this supplier.
4. Shipping expenses are $0.50 per unit sold.
5. Advertising is $5,000 per month. The advertising for the division is in newspapers and television spots. No advertising has been discussed for December; Ms. White intends to have the sales manager call the paper and TV station early next week.
6. Salaries are projected through the end of the year at $700,000. This assumes that the position to be vacated by Ms. White’s personnel manager is filled on December 1. The personnel manager’s job pays $66,000 per year. Ms. White has an interview on Monday with an individual who appears to be a good candidate for the position.
7. Other general and administrative costs for the full year are estimated to total $590,000.
8. As Ms. White is preparing her pro forma income statement for the year, she receives a telephone call from the maintenance supervisor at the office. He informs Ms. White that electrical repairs to the office heating system are necessary, which will cost $10,000. She asks if the repairs are essential, to which the supervisor replies, “No, the office won’t burn down if you don’t make them, but they are advisable for energy efficiency and long term operation of the system.” Ms. White tells the supervisor to see her on Monday at 8:00 a.m. Ms. White was fairly pleased with her pro forma results. Although the results did provide the 13 percent rate of return on investment desired by corporate management, the results did not reach the 16 percent rate needed for Ms. White to receive a bonus. Ms. White has an asset investment base of $4,500,000.
a. Prepare a pro forma income statement for Ms. White’s division. Determine the amount of residual income for the division.
b. Ms. White’s less than scrupulous friend, Ms. Green, walked into the house at this time. When she heard that Ms. White was not going to receive a bonus, Ms. Green said, “Here, let me take care of this for you.” She proceeded to recompute the pro forma income statement and showed Ms. White that, based on her computation of $723,000 in income, she would be receiving her bonus. Prepare Ms. Green’s pro forma income statement.
c. What future difficulties might arise if Ms. White acts in a manner that will make Ms. Green’s pro forma income statement figures a reality?
Groverton Marine evaluates the performance of its two division managers using an ROI formula. For the forthcoming period, divisional estimates of relevant measures are
Power Boats
Sailboats
Total Company
Sales
$12,000,000
$48,000,000
$60,000,000
Expenses
10,800,000
42,000,000
52,800,000
Divisional assets
10,000,000
30,000,000
40,000,000
The managers of both operating divisions have the autonomy to make decisions regarding new investments. The manager of the Power Boats division is contemplating an investment in an additional asset that would generate an ROI of 14 percent, and the manager of the Sailboats division is considering an investment in an additional asset that would generate an ROI of 18 percent.
a. Compute the projected ROI for each division disregarding the contemplated new investments.
b. Based on your answer in part (a), which of the managers is likely to actually invest in the additional assets under consideration?
c. Are the outcomes of the investment decisions in part (b) likely to be consistent with overall corporate goals? Explain.
d. If the company evaluated the division managers’ performances using a residual income measure with a target return of 17 percent, would the outcomes of the investment decisions be different from those described in part (b)? Explain.
You are the division manager of Flotex Engineering. Your performance as a division manager is evaluated primarily on one measure: after tax divisional segment income less the cost of capital invested in divisional assets. For existing operations in your division, projections for 2001 follow:
Sales
$20,000,000
Expenses
17,500,000
Segment income
$2,500,000
Taxes
750,000
After tax segment income
$1,750,000
The value of invested capital of the division is $12,500,000, the required return on capital is 12 percent, and the tax rate is 30 percent. At this moment, you are evaluating an investment in a new product line that would, according to projections, increase 2001 pretax segment income by$200,000. The cost of the investment has not yet been determined.
a. Ignoring the new investment, what is your projected EVA for 2001?
b. In light of your answer in part (a), what is the maximum amount that you would be willing to invest in the new product line?
c. Assuming the new product line would require an investment of $1,100,000, what would be the revised projected EVA for your division in 2001 if the investment were made?
Raddington Industries produces tool and die machinery for manufacturers. The company expanded vertically in 1993 by acquiring one of its suppliers of alloy steel plates, Reigis Steel Company. To manage the two separate businesses, the operations of Reigis are reported separately as an investment center. Raddington monitors its divisions on the basis of both unit contribution and return on average investment (ROI), with investment defined as average operating assets employed. Management bonuses are determined based on ROI. All investments in operating assets are expected to earn a minimum return of 11 percent before income taxes. Reigis’s cost of goods sold is considered to be entirely variable, whereas the division’s administrative expenses are not dependent on volume. Selling expenses are a mixed cost with 40 percent attributed to sales volume. Reigis’s ROI has ranged from 11.8 percent to 14.7 percent since 1993. During the fiscal year ended November 30, 2000, Reigis contemplated a capital acquisition with an estimated ROI of 11.5 percent; however, division management decided that the investment would decrease Reigis’s overall ROI. The 2000 income statement for Reigis follows. The division’s operating assets employed were $15,750,000 at November 30, 2000, a 5 percent increase over the 1999 year end balance.
Sales revenue
$25,000
Less expenses:
Cost of goods sold
$16,500
Administrative expenses
3,955
Selling expenses
2,700
23,155
Income from operations before income taxes
$1,845
a. Calculate the segment contribution for Reigis Steel Division if 1,484,000 units were produced and sold during the year ended November 30, 2000.
b. Calculate the following performance measures for 2000 for the Reigis Steel Division:
1. pretax return on average investment in operating assets employed (ROI), And
2. residual income calculated on the basis of average operating assets employed.
c. Explain why the management of the Reigis Steel Division would have been more likely to accept the contemplated capital acquisition if residual income rather than ROI were used as a performance measure.
d. The Reigis Steel Division is a separate investment center within Raddington Industries. Identify several items that Reigis should control if it is to be evaluated fairly by either the ROI or residual income performance measures. (CMA adapted)
On January 1, 2012, Evangeline Lilly Corporation had merchandise inventory of $50,000. At December 31, 2012, Evangeline Lilly had the following account balances.
Freight in
$ 4,000
Purchases
509,000
Purchase discounts
6,000
Purchase returns and allowances
2,000
Sales revenue
840,000
Sales discounts
5,000
Sales returns and allowances
10,000
At December 31, 2012, Evangeline Lilly determines that its ending inventory is $60,000.
Instructions
(a) Compute Evangeline Lilly’s 2012 gross profit.
(b) Compute Evangeline Lilly’s 2012 operating expenses if net income is $130,000 and there are no nonoperating activities.
Presented below are selected accounts for Dawson Company as reported in the worksheet at the end of May 2012.
Adjusted
Income
Accounts
Trial Balance
Statement
Balance Sheet
Dr.
Cr.
Dr.
Cr.
Dr.
Cr.
Cash
11,000
Inventory
76,000
Sales Revenue
480,000
Sales Returns and Allowances
10,000
Sales Discounts
9,000
Cost of Goods Sold
300,000
Instructions
Complete the worksheet by extending amounts reported in the adjusted trial balance to the appropriate columns in the worksheet. Do not total individual columns.
Pace Distributing Company completed the following merchandising transactions in the month of April. At the beginning of April, the ledger of Pace showed Cash of $9,000 and Owner’s Capital of $9,000.
Apr.
2
Purchased merchandise on account from Monaghan Supply Co. $6,900, terms 1/10, n/30.
4
Sold merchandise on account $6,500, FOB destination, terms 1/10, n/30. The cost of
the merchandise sold was $3,900.
5
Paid $240 freight on April 4 sale.
6
Received credit from Monaghan Supply Co. for merchandise returned $500.
11
Paid Monaghan Supply Co. in full, less discount.
13
Received collections in full, less discounts, from customers billed on April 4.
14
Purchased merchandise for cash $3,800.
16
Received refund from supplier for returned goods on cash purchase of April 14, $500.
18
Purchased merchandise from Dominic Distributors $4,500, FOB shipping point, terms 2/10, n/30.
20
Paid freight on April 18 purchase $100.
23
Sold merchandise for cash $7,400. The merchandise sold had a cost of $4,120.
26
Purchased merchandise for cash $2,300.
27
Paid Dominic Distributors in full, less discount.
29
Made refunds to cash customers for defective merchandise $90. The returned merchandise
had a fair value of $30.
30
Sold merchandise on account $3,700, terms n/30. The cost of the merchandise sold was $2,800.
Pace Distributing Company’s chart of accounts includes the following: No. 101 Cash, No. 112 Accounts Receivable, No. 120 Inventory, No. 201 Accounts Payable, No. 301 Owner’s Capital, No. 401 Sales Revenue, No. 412 Sales Returns and Allowances, No. 414 Sales Discounts, No. 505 Cost of Goods Sold, and No. 644 Freight out.
Instructions
(a) Journalize the transactions using a perpetual inventory system.
(b) Enter the beginning cash and capital balances, and post the transactions.
(c) Prepare the income statement through gross profit for the month of April 2012.
Cusick Department Store is located near the Village Shopping Mall. At the end of the company’s calendar year on December 31, 2012, the following accounts appeared in two of its trial balances.
Accounts Payable
$ 79,300
$ 80,300
Accounts Receivable
50,300
50,300
Accumulated Depr.—Buildings
42,100
52,500
Accumulated Depr.—Equipment
29,600
42,900
Buildings
290,000
290,000
Cash
23,800
23,800
Cost of Goods Sold
412,700
412,700
Depreciation Expense
23,700
Equipment
110,000
110,000
Insurance Expense
7,200
Interest Expense
3,000
12,000
Interest Payable
9,000
Interest Revenue
4,000
4,000
Inventory
$ 75,000
$ 75,000
Mortgage Payable
80,000
80,000
Owner’s Capital
176,600
176,600
Owner’s Drawings
28,000
28,000
Prepaid Insurance
9,600
2,400
Property Tax Expense
4,800
Property Taxes Payable
4,800
Salaries and Wages Expense
108,000
108,000
Sales Revenue
728,000
728,000
Sales Commissions Expense
10,200
14,500
Sales Commissions Payable
4,300
Sales Returns and Allowances
8,000
8,000
Utilities Expense
11,000
12,000
Instructions
(a) Prepare a multiple step income statement, an owner’s equity statement, and a classified balance sheet. $25,000 of the mortgage payable is due for payment next year.
(b) Journalize the adjusting entries that were made.
(c) Journalize the closing entries that are necessary.
Juliet Burke, a former professional tennis star, operates Juliet’s Tennis Shop at the Mitchell Lake Resort. At the beginning of the current season, the ledger of Juliet’s Tennis Shop showed Cash $2,500, Inventory $1,700, and Owner’s Capital $4,200. The following transactions were completed during April.
Apr.
4
Purchased racquets and balls from Miles Co. $840, FOB shipping point, terms 2/10, n/30.
6
Paid freight on purchase from Miles Co. $40.
8
Sold merchandise to members $1,150, terms n/30. The merchandise sold had a cost of $790.
10
Received credit of $40 from Miles Co. for a racquet that was returned.
11
Purchased tennis shoes from Leung Sports for cash, $420.
13
Paid Miles Co. in full.
14
Purchased tennis shirts and shorts from Cyrena’s Sportswear $900, FOB shipping
point, terms 3/10, n/60.
15
Received cash refund of $50 from Leung Sports for damaged merchandise that was returned.
17
Paid freight on Cyrena’s Sportswear purchase $30.
18
Sold merchandise to members $900, terms n/30. The cost of the merchandise sold was $540.
20
Received $600 in cash from members in settlement of their accounts.
21
Paid Cyrena’s Sportswear in full.
27
Granted an allowance of $40 to members for tennis clothing that did not fi t properly.
30
Received cash payments on account from members, $710.
The chart of accounts for the tennis shop includes the following: No. 101 Cash, No. 112 Accounts Receivable, No. 120 Inventory, No. 201 Accounts Payable, No. 301 Owner’s Capital, No. 401 Sales Revenue, No. 412 Sales Returns and Allowances, and No. 505 Cost of Goods Sold.
Instructions
(a) Journalize the April transactions using a perpetual inventory system.
(b) Enter the beginning balances in the ledger accounts and post the April transactions.
Ana Lucia operates a retail clothing operation. She purchases all merchandise inventory on credit and uses a periodic inventory system. The Accounts Payable account is used for recording inventory purchases only; all other current liabilities are accrued in separate accounts.
You are provided with the following selected information for the fiscal years 2009–2012.
2009
2010
2011
2012
Inventory (ending)
$13,000
$ 11,300
$ 14,700
$ 12,200
Accounts payable (ending)
20,000
Sales revenue
239,000
237,000
235,000
Purchases of merchandise
inventory on account
146,000
145,000
129,000
Cash payments to suppliers
135,000
161,000
127,000
Instructions
(a) Calculate cost of goods sold for each of the 2010, 2011, and 2012 fiscal years.
(b) Calculate the gross profit for each of the 2010, 2011, and 2012 fiscal years.
(c) Calculate the ending balance of accounts payable for each of the 2010, 2011, and 2012 fiscal years.
(d) Sales declined in fiscal 2012. Does that mean that profitability, as measured by the gross profit rate, necessarily also declined? Explain, calculating the gross profit rate for each fiscal year to help support your answer.
At the beginning of the current season, the ledger of Alpert Tennis Shop showed Cash $2,500; Inventory $1,700; and Owner’s Capital $4,200. The following transactions were completed during April.
Apr.
4
Purchased racquets and balls from Nestor Co. $740, terms 3/10, n/30.
6
Paid freight on Nestor Co. purchase $60.
8
Sold merchandise to members $900, terms n/30.
10
Received credit of $40 from Nestor Co. for a racquet that was returned.
11
Purchased tennis shoes from Carbonell Sports for cash $300.
13
Paid Nestor Co. in full.
14
Purchased tennis shirts and shorts from Faraday Sportswear $700, terms 2/10, n/60.
15
Received cash refund of $50 from Carbonell Sports for damaged merchandise that was returned.
17
Paid freight on Faraday Sportswear purchase $30.
18
Sold merchandise to members $1,000, terms n/30.
20
Received $500 in cash from members in settlement of their accounts.
21
Paid Faraday Sportswear in full.
27
Granted an allowance of $25 to members for tennis clothing that did not fi t properly.
30
Received cash payments on account from members $550.
The chart of accounts for the tennis shop includes Cash, Accounts Receivable, Inventory, Accounts Payable, Owner’s Capital, Sales Revenue, Sales Returns and Allowances, Purchases, Purchase Returns and Allowances, Purchase Discounts, and Freight in.
Instructions
(a) Journalize the April transactions using a periodic inventory system.
(b) Using T accounts, enter the beginning balances in the ledger accounts and post the April transactions.
(c) Prepare a trial balance on April 30, 2012.
(d) Prepare an income statement through gross profit, assuming inventory on hand at April 30 is $2,296.
The trial balance of Mr. Eko Fashion Center contained the following accounts at November 30, the end of the company’s fiscal year.
MR. EKO FASHION CENTER
Trial Balance
November 30, 2012
Debit
Credit
Cash
$ 8,700
Accounts Receivable
30,700
Inventory
44,700
Supplies
6,200
Equipment
133,000
Accumulated Depreciation—Equipment
$ 28,000
Notes Payable
51,000
Accounts Payable
48,500
Owner’s Capital
90,000
Owner’s Drawings
12,000
Sales Revenue
755,200
Sales Returns and Allowances
8,800
Cost of Goods Sold
497,400
Salaries and Wages Expense
140,000
Advertising Expense
24,400
Utilities Expense
14,000
Maintenance and Repairs Expense
12,100
Freight out
16,700
Rent Expense
24,000
Totals
$972,700
$972,700
Adjustment data:
1. Supplies on hand totaled $2,000.
2. Depreciation is $11,500 on the equipment.
3. Interest of $4,000 is accrued on notes payable at November 30.
4. Inventory actually on hand is $44,400.
Instructions
a) Enter the trial balance on a worksheet, and complete the worksheet.
b) Prepare a multiple step income statement and an owner’s equity statement for the year, and a classified balance sheet as of November 30, 2012. Notes payable of $20,000 are due in January 2013.
Jeremy’s Book Warehouse distributes hardcover books to retail stores and extends credit terms of 2/10, n/30 to all of its customers. At the end of May, Jeremy’s inventory consisted of books purchased for $1,800. During June, the following merchandising transactions occurred.
June
1
Purchased books on account for $1,600 from Davies Publishers, FOB destination,
terms 2/10, n/30. The appropriate party also made a cash payment of $50 for the freight on this date.
3
Sold books on account to Reading Rainbow for $2,500. The cost of the books sold was $1,440.
6
Received $100 credit for books returned to Davies Publishers.
9
Paid Davies Publishers in full, less discount.
15
Received payment in full from Reading Rainbow.
17
Sold books on account to Lapidus Books for $1,800. The cost of the books sold was $1,080.
20
Purchased books on account for $1,500 from Fahey Publishers, FOB destination, terms
2/15, n/30. The appropriate party also made a cash payment of $50 for the freight on this date.
24
Received payment in full from Lapidus Books.
26
Paid Fahey Publishers in full, less discount.
28
Sold books on account to Carlyle Bookstore for $1,400. The cost of the books sold was $850.
30
Granted Carlyle Bookstore $120 credit for books returned costing $72.
Jeremy’s Book Warehouse’s chart of accounts includes the following: No. 101 Cash, No. 112 Accounts Receivable, No. 120 Inventory, No. 201 Accounts Payable, No. 401 Sales Revenue, No. 412 Sales Returns and Allowances, No. 414 Sales Discounts, and No. 505 Cost of Goods Sold.
Instructions
Journalize the transactions for the month of June for Jeremy’s Book Warehouse using a perpetual inventory system.
Boone Hardware Store completed the following merchandising transactions in the month of May. At the beginning of May, the ledger of Boone showed Cash of $5,000 and Owner’s Capital of $5,000.
May
1
Purchased merchandise on account from Adewale’s Wholesale Supply $4,200, terms 2/10, n/30.
2
Sold merchandise on account $2,100, terms 1/10, n/30. The cost of the merchandise sold was $1,300.
5
Received credit from Adewale’s Wholesale Supply for merchandise returned $300.
9
Received collections in full, less discounts, from customers billed on sales of $2,100 on May 2.
10
Paid Adewale’s Wholesale Supply in full, less discount.
11
Purchased supplies for cash $400.
12
Purchased merchandise for cash $1,400.
15
Received refund for poor quality merchandise from supplier on cash purchase $150.
17
Purchased merchandise from Agbaje Distributors $1,300, FOB shipping point, terms 2/10, n/30.
19
Paid freight on May 17 purchase $130.
24
Sold merchandise for cash $3,200. The merchandise sold had a cost of $2,000.
25
Purchased merchandise from Somerhalder, Inc. $620, FOB destination, terms 2/10, n/30.
27
Paid Agbaje Distributors in full, less discount.
29
Made refunds to cash customers for defective merchandise $70. The returned merchandise
had a fair value of $30.
31
Sold merchandise on account $1,000 terms n/30. The cost of the merchandise sold was $560.
Boone Hardware’s chart of accounts includes the following: No. 101 Cash, No. 112 Accounts Receivable, No. 120 Inventory, No. 126 Supplies, No. 201 Accounts Payable, No. 301 Owner’s Capital, No. 401 Sales Revenue, No. 412 Sales Returns and Allowances, No. 414 Sales Discounts, and No. 505 Cost of Goods Sold.
Instructions
(a) Journalize the transactions using a perpetual inventory system.
(b) Enter the beginning cash and capital balances and post the transactions.
(c) Prepare an income statement through gross profit for the month of May 2012.
The Akinnuoye Store is located in midtown Madison. During the past several years, net income has been declining because of suburban shopping centers. At the end of the company’s fiscal year on November 30, 2012, the following accounts appeared in two of its trial balances.
Unadjusted
Adjusted
Accounts Payable
$ 25,200
$ 25,200
Accounts Receivable
30,500
30,500
Accumulated Depr.—Equip.
34,000
45,000
Cash
26,000
26,000
Cost of Goods Sold
507,000
507,000
Freight out
6,500
6,500
Equipment
146,000
146,000
Depreciation Expense
11,000
Insurance Expense
7,000
Interest Expense
6,400
6,400
Interest Revenue
8,000
8,000
Inventory
29,000
29,000
Notes Payable
$ 37,000
$ 37,000
Owner’s Capital
101,700
101,700
Owner’s Drawings
10,000
10,000
Prepaid Insurance
10,500
3,500
Property Tax Expense
2,500
Property Taxes Payable
2,500
Rent Expense
15,000
15,000
Salaries and Wages Expense
96,000
96,000
Sales Revenue
700,000
700,000
Sales Commissions Expense
6,500
11,000
Sales Commissions Payable
4,500
Sales Returns and Allowances
8,000
8,000
Utilities Expense
8,500
8,500
Instructions
(a) Prepare a multiple step income statement, an owner’s equity statement, and a classified balance sheet. Notes payable are due in 2015.
(b) Journalize the adjusting entries that were made.
(c) Journalize the closing entries that are necessary.
Ben Borke, a former disc golf star, operates Ben’s Discorama. At the beginning of the current season on April 1, the ledger of Ben’s Discorama showed Cash $1,800, Inventory $2,500, and Owner’s Capital $4,300. The following transactions were completed during April.
Apr.
5
Purchased golf discs, bags, and other inventory on account from Innova Co. $1,200,
FOB shipping point, terms 2/10, n/60.
7
Paid freight on the Innova purchase $50.
9
Received credit from Innova Co. for merchandise returned $100.
10
Sold merchandise on account for $900, terms n/30. The merchandise sold had a cost of $540.
12
Purchased disc golf shirts and other accessories on account from Lightning Sportswear
$670, terms 1/10, n/30.
14
Paid Innova Co. in full, less discount.
17
Received credit from Lightning Sportswear for merchandise returned $70.
20
Made sales on account for $610, terms n/30. The cost of the merchandise sold was $370.
21
Paid Lightning Sportswear in full, less discount.
27
Granted an allowance to members for clothing that was flawed $20.
30
Received payments on account from customers $900.
The chart of accounts for the store includes the following: No. 101 Cash, No. 112 Accounts Receivable, No. 120 Inventory, No. 201 Accounts Payable, No. 301 Owner’s Capital, No. 401 Sales Revenue, No. 412 Sales Returns and Allowances, and No. 505 Cost of Goods Sold.
Instructions
(a) Journalize the April transactions using a perpetual inventory system.
(b) Enter the beginning balances in the ledger accounts and post the April transactions.
Rodriguez Inc. operates a retail operation that purchases and sells home entertainment products. The company purchases all merchandise inventory on credit and uses a periodic inventory system. The Accounts Payable account is used for recording inventory purchases only; all other current liabilities are accrued in separate accounts. You are provided with the following selected information for the fiscal years 2009 through 2012, inclusive.
2009
2010
2011
2012
Income Statement Data
Sales revenue
$55,000
$ (e)
$47,000
Cost of goods sold
(a)
13,800
14,300
Gross profit
38,300
35,200
(i)
Operating expenses
34,900
(f)
28,600
Net income
$ (b)
$ 2,500
$ (j)
Balance Sheet Data
Inventory
$7,200
$ (c)
$ 8,100
$ (k)
Accounts payable
3,200
3,600
2,500
(l)
Additional Information
Purchases of merchandise
inventory on account
$14,200
$ (g)
$13,200
Cash payments to suppliers
(d)
(h)
13,600
Instructions
(a) Calculate the missing amounts.
(b) Sales declined over the 3 year fiscal period, 2010–2012. Does that mean that profitability necessarily also declined? Explain, computing the gross profit rate and the profit margin ratio for each fiscal year to help support your answer.
At the beginning of the current season on April 1, the ledger of Ilana Pro Shop showed Cash $3,000; Inventory $4,000; and Owner’s Capital $7,000. These transactions occurred during April 2012.
Apr.
5
Purchased golf bags, clubs, and balls on account from Zuleikha Co. $1,200, FOB shipping
point, terms 2/10, n/60.
7
Paid freight on Zuleikha Co. purchases $50.
9
Received credit from Zuleikha Co. for merchandise returned $100.
10
Sold merchandise on account to members $600, terms n/30.
12
Purchased golf shoes, sweaters, and other accessories on account from Libby Sportswear
$450, terms 1/10, n/30.
14
Paid Zuleikha Co. in full.
17
Received credit from Libby Sportswear for merchandise returned $50.
20
Made sales on account to members $600, terms n/30.
21
Paid Libby Sportswear in full.
27
Granted credit to members for clothing that had flaws $35.
30
Received payments on account from members $600.
The chart of accounts for the pro shop includes Cash, Accounts Receivable, Inventory, Accounts Payable, Owner’s Capital, Sales Revenue, Sales Returns and Allowances, Purchases, Purchase Returns and Allowances, Purchase Discounts, and Freight in.
Instructions
(a) Journalize the April transactions using a periodic inventory system.
(b) Using T accounts, enter the beginning balances in the ledger accounts and post the April transactions.
(c) Prepare a trial balance on April 30, 2012.
(d) Prepare an income statement through gross profit, assuming merchandise inventory on hand at April 30 is $4,824.
Three years ago, Carrie Dungy and her brother in law Luke Barber opened FedCo Department Store. For the first two years, business was good, but the following condensed income results for 2011 were disappointing.
FEDCO DEPARTMENT STORE
Income Statement
For the Year Ended December 31, 2011
Net sales
$700,000
Cost of goods sold
553,000
Gross profit
147,000
Operating expenses
Selling expenses
$100,000
Administrative expenses
20,000
120,000
Net income
$ 27,000
Carrie believes the problem lies in the relatively low gross profit rate (gross profit divided by net sales) of 21%. Luke believes the problem is that operating expenses are too high. Carrie thinks the gross profit rate can be improved by making both of the following changes. She does not anticipate that these changes will have any effect on operating expenses.
1. Increase average selling prices by 17%. This increase is expected to lower sales volume so that total sales will increase only 6%.
2. Buy merchandise in larger quantities and take all purchase discounts. These changes are expected to increase the gross profit rate by 3 percentage points.
Luke thinks expenses can be cut by making both of the following changes. He feels that these changes will not have any effect on net sales.
1. Cut 2011 sales salaries of $60,000 in half and give sales personnel a commission of 2% of net sales.
2. Reduce store deliveries to one day per week rather than twice a week; this change will reduce 2011 delivery expenses of $30,000 by 40%.
Carrie and Luke come to you for help in deciding the best way to improve net income.
Instructions
With the class divided into groups, answer the following.
(a) Prepare a condensed income statement for 2012, assuming (1) Carrie’s changes are implemented and (2) Luke’s ideas are adopted.
(b) What is your recommendation to Carrie and Luke?
(c) Prepare a condensed income statement for 2012, assuming both sets of proposed changes are made.
Natalie had a very busy December. At the end of the month, after journalizing and posting the December transactions and adjusting entries, Natalie prepared the following adjusted trial balance.
COOKIE CREATIONS
Adjusted Trial Balance
December 31, 2011
Debit
Credit
Cash
$1,180
Accounts Receivable
875
Supplies
350
Prepaid Insurance
1,210
Equipment
1,200
Accumulated Depreciation—Equipment
$ 40
Accounts Payable
75
Salaries and Wages Payable
56
Interest Payable
15
Unearned Service Revenue
300
Notes Payable
2,000
Owner’s Capital
800
Owner’s Drawings
500
Service Revenue
4,515
Salaries and Wages Expense
1,006
Utilities Expense
125
Advertising Expense
165
Supplies Expense
1,025
Depreciation Expense
40
Insurance Expense
110
Interest Expense
15
$7,801
$7,801
Instructions
Using the information in the adjusted trial balance, do the following.
(a) Prepare an income statement and an owner’s equity statement for the 2 months ended December 31, 2011, and a classified balance sheet as at December 31, 2011. The note payable has a stated interest rate of 6%, and the principal and interest are due on November 16, 2013.
(b) Natalie has decided that her year end will be December 31, 2011. Prepare and post closing entries as of December 31, 2011.
Whitegloves Janitorial Service was started 2 years ago by Nancy Kohl. Because business has been exceptionally good, Nancy decided on July 1, 2012, to expand operations by acquiring an additional truck and hiring two more assistants. To finance the expansion, Nancy obtained on July 1, 2012, a $25,000, 10% bank loan, payable $10,000 on July 1, 2013, and the balance on July 1, 2014. The terms of the loan require the borrower to have $10,000 more current assets than current liabilities at December 31, 2012. If these terms are not met, the bank loan will be refinanced at 15% interest. At December 31, 2012, the accountant for Whitegloves Janitorial Service Inc. prepared the balance sheet shown below.
Nancy presented the balance sheet to the bank’s loan officer on January 2, 2013, confident that the company had met the terms of the loan. The loan officer was not impressed. She said, “We need financial statements audited by a CPA.” A CPA was hired and immediately realized that the balance sheet had been prepared from a trial balance and not from an adjusted trial balance. The adjustment data at the balance sheet date consisted of the following.
(1) Earned but unbilled janitorial services were $3,700.
(2) Janitorial supplies on hand were $2,500.
(3) Prepaid insurance was a 3 year policy dated January 1, 2012.
(4) December expenses incurred but unpaid at December 31, $500.
(5) Interest on the bank loan was not recorded.
(6) The amounts for property, plant, and equipment presented in the balance sheet were reported net of accumulated depreciation (cost less accumulated depreciation). These amounts were $4,000 for cleaning equipment and $5,000 for delivery trucks as of January 1, 2012. Depreciation for 2012 was $2,000 for cleaning equipment and $5,000 for delivery trucks.
WHITEGLOVES JANITORIAL SERVICE
Balance Sheet
December 31, 2012
Assets
Liabilities and Owner’s Equity
Current assets
Current liabilities
Cash
$ 6,500
Notes payable
$10,000
Accounts receivable
9,000
Accounts payable
2,500
Janitorial supplies
5,200
Total current liabilities
12,500
Prepaid insurance
4,800
Long term liability
Total current assets
25,500
Notes payable
15,000
Property, plant, and equipment
Total liabilities
27,500
Cleaning equipment (net)
22,000
Owner’s equity
Delivery trucks (net)
34,000
Owner’s capital
54,000
Total property, plant, and equipment
56,000
Total assets
$81,500
Total liabilities and owner’s equity
$81,500
Instructions
With the class divided into groups, answer the following.
As the controller of Breathless Perfume Company, you discover a misstatement that overstated net income in the prior year’s financial statements. The misleading financial statements appear in the company’s annual report which was issued to banks and other creditors less than a month ago. After much thought about the consequences of telling the president, Jerry McNabb, about this misstatement, you gather your courage to inform him. Jerry says, “Hey! What they don’t know won’t hurt them. But, just so we set the record straight, we’ll adjust this year’s financial statements for last year’s misstatement. We can absorb that misstatement better in this year than in last year anyway! Just don’t make such a mistake again.”
Instructions
(a) Who are the stakeholders in this situation?
(b) What are the ethical issues in this situation?
(c) What would you do as a controller in this situation?
Companies prepare balance sheets in order to know their financial position at a specific point in time. This enables them to make a comparison to their position at previous points in time, and gives them a basis for planning for the future. As discussed in the All About You feature in order to evaluate your financial position you need to prepare a personal balance sheet. Assume that you have compiled the following information regarding your finances.
Amount owed on student loan balance (long term)
$ 5,000
Balance in checking account
1,200
Certifi cate of deposit (6 month)
3,000
Annual earnings from part time job
11,300
Automobile
7,000
Balance on automobile loan (current portion)
1,500
Balance on automobile loan (long term portion)
4,000
Home computer
800
Amount owed to you by younger brother
300
Balance in money market account
1,800
Annual tuition
6,400
Video and stereo equipment
1,250
Balance owed on credit card (current portion)
150
Balance owed on credit card (long term portion)
1,650
Instructions
Prepare a personal balance sheet using the format you have learned for a classified balance sheet for a company. For the capital account, use Owner’s Capital.
You are presented with the following list of accounts from the adjusted trial balance for merchandiser Gorman Company. Indicate in which financial statement and under what classification each of the following would be reported.
Richard Company is preparing its multiple step income statement, owner’s equity statement, and classified balance sheet. Using the column heads Account, Financial Statement, and Classification, indicate in which financial statement and under what Classification each of the following would be reported.
On September 1, Samardo Office Supply had an inventory of 30 calculators at a cost of $18 each. The company uses a perpetual inventory system. During September, the following transactions occurred.
Sept.
6
Purchased 80 calculators at $20 each from Samuels Co. for cash.
9
Paid freight of $80 on calculators purchased from Samuels Co.
10
Returned 3 calculators to Samuels Co. for $63 credit (including freight) because they did not meet specifications.
12
Sold 26 calculators costing $21 (including freight) for $31 each to Trent Book Store, terms n/30.
14
Granted credit of $31 to Trent Book Store for the return of one calculator that was not ordered.
14
Sold 30 calculators costing $21 for $32 each to Plaisted’s Card Shop, terms n/30.
Presented below are transactions related to Sayid Company.
1. On December 3, Sayid Company sold $570,000 of merchandise to Shephard Co., terms 2/10,n/30, FOB shipping point. The cost of the merchandise sold was $350,000.
2. On December 8, Shephard Co. was granted an allowance of $20,000 for merchandise purchased on December 3.
3. On December 13, Sayid Company received the balance due from Shephard Co.
Instructions
(a) Prepare the journal entries to record these transactions on the books of Sayid Company using a perpetual inventory system.
(b) Assume that Sayid Company received the balance due from Shephard Co. on January 2 of the following year instead of December 13. Prepare the journal entry to record the receipt of payment on January 2.
The adjustments columns of the worksheet for Toeaina Company are shown below.
Adjustments
Account Titles
Debit
Credit
Accounts Receivable
1,100
Prepaid Insurance
300
Accumulated Depreciation—Equipment
900
Salaries and Wages Payable
500
Service Revenue
1,100
Salaries and Wages Expense
500
Insurance Expense
300
Depreciation Expense
900
2,800
2,800
Adjustments
Instructions
(a) Prepare the adjusting entries.
(b) Assuming the adjusted trial balance amount for each account is normal, indicate the financial statement column to which each balance should be extended.
On December 31, the adjusted trial balance of Johnson Employment Agency shows the following selected data.
Accounts Receivable
$24,500
Interest Expense
8,300
Service Revenue
$92,500
Interest Payable
2,000
Analysis shows that adjusting entries were made to (1) accrue $5,000 of service revenue and (2) accrue $2,000 interest expense.
Instructions
(a) Prepare the closing entries for the temporary accounts shown above at December 31.
(b) Prepare the reversing entries on January 1.
(c) Post the entries in (a) and (b). Rule and balance the accounts.
(d) Prepare the entries to record (1) the collection of the accrued revenue on January 10 and (2) the payment of all interest due ($3,000) on January 15.
(e) Post the entries in (d) to the temporary accounts.
Omer Asik began operations as a private investigator on January 1, 2012. The trial balance columns of the worksheet for Omer Asik, P.I. at March 31 are as follows.
OMER ASIK, P.I.
Worksheet
For the Quarter Ended March 31, 2012
Trial Balance
Account Titles
Dr.
Cr.
Cash
11,400
Accounts Receivable
5,620
Supplies
1,050
Prepaid Insurance
2,400
Equipment
30,000
Notes Payable
10,000
Accounts Payable
12,350
Owner’s Capital
20,000
Owner’s Drawings
600
Service Revenue
13,620
Salaries and Wages Expense
2,200
Travel Expense
1,300
Rent Expense
1,200
Miscellaneous Expense
200
55,970
55,970
Other data:
1. Supplies on hand total $480.
2. Depreciation is $800 per quarter.
3. Interest accrued on 6 month note payable, issued January 1, $300.
4. Insurance expires at the rate of $200 per month.
5. Services provided but unbilled at March 31 total $1,030.
Instructions
(a) Enter the trial balance on a worksheet and complete the worksheet.
(b) Prepare an income statement and owner’s equity statement for the quarter and a classified balance sheet at March 31. O. Asik did not make any additional investments in the business during the quarter ended March 31, 2012.
(c) Journalize the adjusting entries from the adjustments columns of the worksheet.
(d) Journalize the closing entries from the financial statement columns of the worksheet.
The adjusted trial balance columns of the worksheet for Boozer Company are as follows.
BOOZER COMPANY
Worksheet
For the Year Ended December 31, 2012
Adjusted
Trial Balance
Account
Dr.
No.
Account Titles
18,800
101
Cash
16,200
112
Accounts Receivable
2,300
126
Supplies
4,400
130
Prepaid Insurance
46,000
151
Equipment
152
Accumulated Depreciation—Equipment
20,000
200
Notes Payable
20,000
201
Accounts Payable
8,000
212
Salaries and Wages Payable
2,600
230
Interest Payable
1,000
301
Owner’s Capital
26,000
306
Owner’s Drawings
12,000
400
Service Revenue
87,800
610
Advertising Expense
10,000
631
Supplies Expense
3,700
711
Depreciation Expense
8,000
722
Insurance Expense
4,000
726
Salaries and Wages Expense
39,000
905
Interest Expense
1,000
Totals
165,400
165,400
Instructions
(a) Complete the worksheet by extending the balances to the financial statement columns.
(b) Prepare an income statement, owner’s equity statement, and a classified balance sheet. $5,000 of the notes payable become due in 2013. C. Boozer did not make any additional investments in the business during 2012.
(c) Prepare the closing entries. Use J14 for the journal page.
(d) Post the closing entries. Use the three column form of account. Income Summary is account No. 350.
The completed financial statement columns of the worksheet for Carlos Company are shown on the next page.
CARLOS COMPANY
Worksheet
For the Year Ended December 31, 2012
Income Statement
Balance Sheet
Account
Dr.
Cr.
Dr.
Cr.
No.
Account Titles
6,200
101
Cash
7,500
112
Accounts Receivable
1,800
130
Prepaid Insurance
33,000
157
Equipment
8,600
167
Accumulated Depreciation—Equip.
11,700
201
Accounts Payable
3,000
212
Salaries and Wages Payable
34,000
301
Owner’s Capital
7,200
306
Owner’s Drawings
46,000
400
Service Revenue
4,400
622
Maintenance and Repairs Expense
2,800
711
Depreciation Expense
1,200
722
Insurance Expense
35,200
726
Salaries and Wages Expense
4,000
732
Utilities Expense
47,600
46,000
55,700
57,300
Totals
1,600
1,600
Net Loss
47,600
47,600
57,300
57,300
Instructions
(a) Prepare an income statement, owner’s equity statement, and a classified balance sheet. B. Carlos made an additional investment in the business of $4,000 during 2012.
(b) Prepare the closing entries.
(c) Post the closing entries and rule and balance the accounts. Use T accounts. Income Summary is account No. 350.
Luol Deng CPA, was retained by Acie Cable to prepare financial statements for April 2012. Deng accumulated all the ledger balances per Acie’s records and found the following.
ACIE CABLE
Trial Balance
April 30, 2012
Debit
Credit
Cash
$ 4,100
Accounts Receivable
3,200
Supplies
800
Equipment
10,600
Accumulated Depreciation—Equip.
$ 1,350
Accounts Payable
2,100
Salaries and Wages Payable
700
Unearned Service Revenue
890
Owner’s Capital
12,900
Service Revenue
5,450
Salaries and Wages Expense
3,300
Advertising Expense
600
Miscellaneous Expense
290
Depreciation Expense
500
$23,390
$23,390
Luol Deng reviewed the records and found the following errors.
1. Cash received from a customer on account was recorded as $950 instead of $590.
2. A payment of $75 for advertising expense was entered as a debit to Miscellaneous Expense $75 and a credit to Cash $75.
3. The salary payment this month was for $1,900, which included $700 of salaries payable on March 31. The payment was recorded as a debit to Salaries and Wages Expense $1,900 and a credit to Cash $1,900.
4. The purchase on account of a printer costing $310 was recorded as a debit to Supplies and a credit to Accounts Payable for $310.
5. A cash payment of repair expense on equipment for $96 was recorded as a debit to Equipment $69 and a credit to Cash $69.
Instructions
(a) Prepare an analysis of each error showing (1) the incorrect entry, (2) the correct entry, and (3) the correcting entry. Items 4 and 5 occurred on April 30, 2012.
The trial balance columns of the worksheet for Gibson Roofi ng at March 31, 2012, are as follows.
GIBSON ROOFING
Worksheet
For the Month Ended March 31, 2012
Trial Balance
Account Titles
Dr.
Cr.
Cash
4,500
Accounts Receivable
3,200
Supplies
2,000
Equipment
11,000
Accumulated Depreciation—Equipment
1,250
Accounts Payable
2,500
Unearned Service Revenue
550
Owner’s Capital
12,900
Owner’s Drawings
1,100
Service Revenue
6,300
Salaries and Wages Expense
1,300
Miscellaneous Expense
400
23,500
23,500
Other data:
1. A physical count reveals only $550 of roofing supplies on hand.
2. Depreciation for March is $250.
3. Unearned revenue amounted to $210 at March 31.
4. Accrued salaries are $700.
Instructions
(a) Enter the trial balance on a worksheet and complete the worksheet.
(b) Prepare an income statement and owner’s equity statement for the month of March and a classified balance sheet at March 31. T. Gibson did not make any additional investments in the business in March.
(c) Journalize the adjusting entries from the adjustments columns of the worksheet.
(d) Journalize the closing entries from the financial statement columns of the worksheet.
The adjusted trial balance columns of the worksheet for Taj Company, owned by Gabby Taj, are as follows.
TAJ COMPANY
Worksheet
For the Year Ended December 31, 2012
Adjusted
Trial Balance
Account
No.
Account Titles
Dr.
101
Cash
5,300
112
Accounts Receivable
10,800
126
Supplies
1,500
130
Prepaid Insurance
2,000
151
Equipment
27,000
152
Accumulated Depreciation—Equipment
5,600
200
Notes Payable
15,000
201
Accounts Payable
6,100
212
Salaries and Wages Payable
2,400
230
Interest Payable
600
301
Owner’s Capital
13,000
306
Owner’s Drawings
7,000
400
Service Revenue
61,000
610
Advertising Expense
8,400
631
Supplies Expense
4,000
711
Depreciation Expense
5,600
722
Insurance Expense
3,500
726
Salaries and Wages Expense
28,000
905
Interest Expense
600
Totals
103,700
103,700
Instructions
(a) Complete the worksheet by extending the balances to the financial statement columns.
(b) Prepare an income statement, owner’s equity statement, and a classified balance sheet. Gabby Taj did not make any additional investments in the business during the year.
(c) Prepare the closing entries. Use J14 for the journal page.
(d) Post the closing entries. Use the three column form of account. Income Summary is No. 350.
Law Management Services began business on January 1, 2012, with a capital investment of $120,000. The company manages condominiums for owners (Service Revenue) and rents space in its own office building (Rent Revenue). The trial balance and adjusted trial balance columns of the worksheet at the end of the year are as follows.
The Long Run Golf & Country Club details the following accounts in its financial statements.
(a)
(b)
Accounts payable and accrued liabilities
_____
_____
Accounts receivable
_____
_____
Property, plant, and equipment
_____
_____
Food and beverage operations revenue
_____
_____
Golf course operations revenue
_____
_____
Inventory
_____
_____
Long term debt
_____
_____
Office and general expense
_____
_____
Professional fees expense
_____
_____
Wages and benefits expense
_____
_____
Instructions
(a) Classify each of the above accounts as an asset (A), liability (L), stockholders’ equity (SE), revenue (R), or expense (E) item.
(b) Classify each of the above accounts as a financing activity (F), investing activity (I), or operating activity (O). If you believe a particular account doesn’t fit in any of these activities, explain why.
. The following data are derived from the 2006 financial statements of Southwest Airlines. All dollars are in millions. Southwest has a December 31 year end.
Cash balance, January 1, 2006
$2,280
Cash paid for repayment of debt
607
Cash received from issuance of common stock
260
Cash received from issuance of long term debt
300
Cash received from customers
9,081
Cash paid for property and equipment
1,399
Cash paid for dividends
14
Cash paid for repurchase of common stock
800
Cash paid for goods and services
7,583
Instructions
(a) After analyzing the data, prepare a statement of cash flows for Southwest Airlines for the year ended December 31, 2006.
(b) Discuss whether the company’s cash from operations was sufficient to finance its investing activities. If it was not, how did the company finance its investing activities?
Mike Paul is the bookkeeper for Benelli Company. Mike has been trying to get the balance sheet of Benelli Company to balance. It finally balanced, but now he’s not sure it is correct.
(a) Sally Quayle, a college student looking for summer employment, opened a vegetable stand along a busy local highway. Each morning she buys produce from local farmers, then sells it in the afternoon as people return home from work.
(b) Jack Nabb and Kevin Klein each owned separate swing set manufacturing businesses.
They have decided to combine their businesses and try to expand their reach beyond their local market. They expect that within the coming year they will need significant funds to expand their operations.
(c) Three chemistry professors at FIU have formed a business to employ bacteria to clean up toxic waste sites. Each has contributed an equal amount of cash and knowledge to the venture. The use of bacteria in this situation is experimental, and legal obligations could result.
(d) Lois Shore has run a successful, but small cooperative health food store for over 20 years. The increased sales of her store have made her believe that the time is right to open a national chain of health food stores across the country. Of course, this
will require a substantial investment in stores, inventory, and employees in each store. Lois has no savings or personal assets. She wants to maintain control over the business.
(e) Megan Piper and Brett Tanner recently graduated with masters degrees in economics. They have decided to start a consulting business focused on teaching the basics of international economics to small business owners interested in international trade.
Instructions
In each case explain what form of organization the business is likely to take—sole proprietorship, partnership, or corporation. Give reasons for your choice.
Financial decisions often place heavier emphasis on one type of financial statement over the others. Consider each of the following hypothetical situations independently.
(a) An investor is considering purchasing common stock of the Bally Total Fitness company. The investor plans to hold the investment for at least 3 years.
(b) Boeing is considering extending credit to a new customer. The terms of the credit would require the customer to pay within 60 days of receipt of goods.
(c) The president of Northwest Airlines is trying to determine whether the company is generating enough cash to increase the amount of dividends paid to investors in this and future years, and still have enough cash to buy new flight equipment as it is needed.
(d) Bank of America is considering extending a loan to a small company. The company would be required to make interest payments at the end of each year for 5 years, and to repay the loan at the end of the fifth year.
Instructions
In each of the situations above, state whether the decision maker would be most likely to place primary emphasis on information provided by the income statement, balance sheet, or statement of cash flows. In each case provide a brief justification for your choice.
Labette Delivery was started on May 1 with an investment of $45,000 cash. To “jump start” its sales, the company spent significant money on advertising. Following are the assets and liabilities of the company on May 31, 2010, and the revenues and expenses for the month of May, its first month of operations.
Accounts receivable
$6,200
Notes payable
$28,000
Service revenue
9,800
Wage expense
2,200
Advertising expense
800
Equipment
57,300
Accounts payable
2,400
Repair expense
500
Cash
13,700
Fuel expense
2,400
Insurance expense
400
No additional common stock was issued in May, but a dividend of $1,700 in cash was paid.
Instructions
Prepare an income statement and a retained earnings statement for the month of May and a balance sheet at May 31, 2010.
(b) Briefly discuss whether the company’s first month of operations was a success.
(c) Discuss the company’s decision to distribute a dividend.
Houston Corporation was formed during 2009 by Glenda Lee. Glenda is the president and sole stockholder. At December 31, 2010, Glenda prepared an income statement for Houston Corporation. Glenda is not an accountant, but she thinks she did a reasonable job preparing the income statement by looking at the financial statements of other companies. She has asked you for advice. Glenda’s income statement appears as follows.
HOUSTON CORPORATION Income Statement For the Year Ended December 31, 2010
Accounts receivable
$17,000
Revenue
50,000
Rent expense
12,000
Insurance expense
7,000
Vacation expense
2,000
Net income
58,000
Glenda has also provided you with these facts.
1. Included in the revenue account is $3,000 of revenue that the company earned and received payment for in 2009. She forgot to include it in the 2009 income statement, so she put it in this year’s statement.
2. Glenda operates her business out of the basement of her parents’ home. They do not charge her anything, but she thinks that if she paid rent it would cost her about $12,000 per year. She, therefore, included $12,000 of rent expense in the income statement.
3. To reward herself for a year of hard work, Glenda went to Greece. She did not use company funds to pay for the trip, but she reported it as an expense on the income statement since it was her job that made her need the vacation.
Instructions
(a) Comment on the proper accounting treatment of the three items above.
(b) Prepare a corrected income statement for Houston Corporation.
Xerox was not having a particularly pleasant year. The company’s stock price had already fallen in the previous year from $60 per share to $30. Just when it seemed things couldn’t get worse, Xerox’s stock fell to $4 per share. The data below were taken from the statement of cash flows of Xerox. All dollars are in millions.
Cash used in operating activities
($663)
Cash used in investing activities
644
Financing activities
Dividends paid
($587)
Net cash received from issuing debt
3,498
Cash provided by financing activities 2,911
Instructions
Analyze the information above, and then answer the following questions.
(a) If you were a creditor of Xerox, what reaction might you have to the above information?
(b) If you were an investor in Xerox, what reaction might you have to the above information?
(c) If you were evaluating the company as either a creditor or a stockholder, what other information would you be interested in seeing?
(d) Xerox decided to pay a cash dividend. This dividend was approximately equal to the amount paid in the previous year. Discuss the issues that were probably considered in making this decision.
Purpose: Identify summary information about companies. This information includes basic descriptions of the company’s location, activities, industry, financial health, and financial performance.
Steps
1. Type in a company name, or use the index to find company name.
2. Choose Quote, then choose Profile, then choose Income Statement. Perform instructions (a) and (b) below.
3. Choose Industry to identify others in this industry. Perform instructions (c)–(e) below.
Instructions
Answer the following questions.
(a) What was the company’s net income? Over what period was this measured?
(b) What was the company’s total sales? Over what period was this measured?
(c) What is the company’s industry?
(d) What are the names of four companies in this industry?
(e) Choose one of the competitors. What is this competitor’s name? What were its sales?
Kim Walters recently accepted a job in the production department at Tootsie Roll. Before she starts work, she decides to review the company’s annual report to better understand its operations.
Instructions
Use the annual report provided in Appendix A to answer the following questions.
(a) What CPA firm performed the audit of Tootsie Roll’s financial statements?
(b) What was the amount of Tootsie Roll’s earnings per share in 2007?
(c) What are the company’s net sales in foreign countries in 2007?
(d) What did management suggest as the cause of the decrease in the sales in 2007?
(e) What were net sales in 2003?
(f ) How many shares of Class B common stock have been authorized?
(g) How much cash was spent on capital expenditures in 2007?
(h) Over what life does the company depreciate its buildings?
(i) What was the value of raw material and supplies inventory in 2006?
Diane Wynne is the bookkeeper for Bates Company, Inc. Diane has been trying to get the company’s balance sheet to balance. She finally got it to balance, but she still isn’t sure that it is correct.
BATESCOMPANY,INC. Balance Sheet For the Month Ended December 31, 2010
Assets
Liabilities and Stockholders’ Equity
Equipment
$20,500
Common stock
$12,000
Cash
10,500
Accounts receivable
6,000
Supplies
2,000
Dividends
2,000
Accounts payable
5,000
Notes payable
14,000
Total assets
$28,000
Retained earnings
10,000
Total liabilities and stockholders’ equity
$28,000
Instructions
Explain to Diane Wynne in a memo (a) the purpose of a balance sheet, and (b) why this balance sheet is incorrect and what she should do to correct it.
Rules governing the investment practices of individual certified public accountants prohibit them from investing in the stock of a company that their firm audits. The Securities and Exchange Commission became concerned that some accountants were violating this rule. In response to an SEC investigation, PricewaterhouseCoopers fired 10 people and spent $25 million educating employees about the investment rules and installing an investment tracking system.
Instructions
Answer the following questions.
(a) Why do you think rules exist that restrict auditors from investing in companies that are audited by their firms?
(b) Some accountants argue that they should be allowed to invest in a company’s stock as long as they themselves aren’t involved in working on the company’s audit or consulting. What do you think of this idea?
(c) Today a very high percentage of publicly traded companies are audited by only four very large public accounting firms. These firms also do a high percentage of the consulting work that is done for publicly traded companies. How does this fact complicate
the decision regarding whether CPAs should be allowed to invest in companies audited by their firm?
(d) Suppose you were a CPA and you had invested in IBM when IBM was not one of your firm’s clients. Two years later, after IBM’s stock price had fallen considerably ,your firm won the IBM audit contract. You will not in any way be involved in working with the IBM audit, which will be done by one of your firm’s other offices in a different state. You know that your firm’s rules, as well as U.S. law, require that you sell your shares immediately. If you do sell immediately, you will sustain a large loss. Do you think this is fair? What would you do?
(e) Why do you think PricewaterhouseCoopers took such extreme steps in response to the SEC investigation?
Some people are tempted to make their finances look worse to get financial aid. Companies sometimes also manage their financial numbers in order to accomplish certain goals. Earnings management is the planned timing of revenues, expenses, gains, and losses to smooth out bumps in net income. In managing earnings, companies’ actions vary from being within the range of ethical activity, to being both unethical and illegal attempts to mislead investors and creditors.
Instructions
Provide responses for each of the following questions.
(a) Discuss whether you think each of the following actions to increase the chances of receiving financial aid is ethical.
(i) Spend down the student’s assets and income first, before spending parents’ assets and income.
(ii) Accelerate necessary expenses to reduce available cash. For example, if you need a new car, buy it before applying for financial aid.
(iii) State that a truly financially dependent child is independent.
(iv) Have a parent take an unpaid leave of absence for long enough to get below the “threshold” level of income.
(b) What are some reasons why a company might want to overstate its earnings?
(c) What are some reasons why a company might want to understate its earnings?
(d) Under what circumstances might an otherwise ethical person decide to illegally overstate or understate earnings?
A tabular analysis of the transactions made by Roberta Mendez & Co., a certified public accounting firm, for the month of August is shown below. Each increase and decrease in stockholders’ equity is explained.
Bob Sample and other student investors opened Campus Carpet Cleaning, Inc. on September 1, 2010. During the first month of operations the following transactions occurred.
1
Stockholders invested $20,000 cash in the business.
2
Paid $1,000 cash for store rent for the month of September.
3
Purchased industrial carpet cleaning equipment for $25,000, paying $10,000 in cash and signing a $15,000 6 month, 12% note payable.
4
Paid $1,200 for 1 year accident insurance policy.
10
Received bill from the Daily News for advertising the opening of the cleaning service, $200.
15
Performed services on account for $6,200.
20
Paid a $700 cash dividend to stockholders.
30
Received $5,000 from customers billed on September 15.
The chart of accounts for the company is the same as for Sierra Corporation except for the following additional accounts: Cleaning Equipment and Advertising Expense.
Instructions
(a) Journalize the September transactions.
(b) Open ledger accounts and post the September transactions.
(c) Prepare a trial balance at September 30, 2010.
Important : The Professor divided the class four groups and each group will do the the same exercise but the answers of each grup can not be the same . That means that I can not use an answer from a solutions manual.
Overstated Sales and Accounts Receivable
This case is designed like the ones in this chapter. Your assignment is to write the “ audit approach” portion of the case, organized around these sections :
Objective. Express the objective in terms of the facts supposedly asserted in financial records, accounts, accounts , and statements.
Control. Write a brief explanation of desirable controls, missing controls, and especially the kinds of “derivations” that might arise from the situation described in the case.
Test of controls. Write some procedures for getting evidence about existing controls and especially procedures that could discover deviations from controls. If there are no controls to test, then there are no procedures to perform; go to the next section. A “procedure” should instruct someone about the source (s) of evidence to tap and the work to do.
Audit of balance . Write some procedures for getting evidence about the existence, completeness, valuation, ownership, or disclosure assertions identified in your objective section above.
Discovery summary. Write a short statement about the discovery you expect to accomplish with your procedures.
Ring around the Revenue
Mattel Toy Manufacturing Company had the experience several years of good business . Income had increased steadily and the common stock was a favorite among investors. Management had confidently predicted continued growth and prosperity. However, business turned worse instead of better. Competition became fierce.
In earlier years, Mattel had accommodated a few large retail customers with the practice of field warehousing coupled with a “bill and hold” accounting procedure. These large retail customers executed noncancelable written agreements, asserting their purchase of toys and their obligations to pay. The toys were not actually shipped because the customers did not have available warehouse space. They were set aside in segregated areas on the Mattel premises and identified as the custmers’ property. Mattel would later ship the toys to various retail locations upon instructions from the customers. The “field warehousing” was explained as Mattel’s serving as a temporary warehouse and storage location for the customers’ toys. In the related bill and hold accounting procedures, Mattel prepared invoices billing the customers, mailed the invoices to the customers, and recorded the sales and accounts receivable.
When business took a downturn, Mattel expanded its field warehousing and its bill and hold accounting practices. Invoices were recorded for customers who did not execute the written agreements used in previous arrangements. Some customers signed the noncancelable written agreements with clauses permitting subsequent inspection, acceptance, and determination of discounted prices. The toys were not always set aside in separate areas, and this failure later gave shipping employees problems with identifying shipments of toys that had been “sold” earlier and those that had not.
Mattel also engaged in overbilling. Customers who ordered closeout toys at discounted prices were billed at regular prices, even though the customers’ orders showed the discounted prices agreed by Mattel representatives.
In few cases, the bill and hold invoices and the closeout sales were billed and recorded in duplicate. In most cases, the customers’ invoices were addressed and mailed to specific individuals in the customers’ management instead of the routine mailing to the customers’ accounts payable departments.
Audit trail. The field warehousing arrangements were well known and acknowledged in the Mattel accounting manual. Related invoices were stamped “bill and hold ‘’. Customer orders and agreements were attached in a document file. Sales of closeout toys also were stamped “closeout”, indicating the regular prices (basis for salespersons’ commissions) and the invoice prices. Otherwise, the accounting for sales and accounts receivable was unexceptional. Efforts to record these sales in January (last month of the fiscal year ) caused the month’s sales revenue to be 35 percent higher than the January of the previous year.
In the early years of the practice, inventory sold under the field warehousing arrangements ( both regular and closeouts toys ) was segregated and identified. The shipping orders for these toys left the ‘’carrier name’’ and ‘’shipping date’’ blank , even though they were signed and dated by a company employee in the spaces for the company representative and carrier representative signatures.
The lack of inventory segregation caused problems for the company. After the fiscal year – end, Mattel solved the problem by reversing $6.9 million of the $14 million bill and hold sales. This caused another problem because the reversal was larger than the month’s sales, causing the sales revenue for the first month of the next year to be negative number !
Amount. Company officials gave persuasive reasons for the validity of recognizing sales revenue and receivables on the bill and hold procedure and field warehousing. After considering the facts and circumstances, the company’s auditors agreed that the accounting practices appropiately accounted for revenue and receivables.
Mattel’s abuse of these practices caused financial statements to be materially misstated. In January of the year in question, the company overstated sales by about $14 million on these sales caused the income to be overstated by about 40 percent .
Sal ige lloiors (Solliiire Training) Savage Motors sells and leases commercial automobiles, vans, and trucks to customers in southern California. Most of the company’s administrative staff work in the main office. The compai’ has been in business for 3S years, but only in the last 10 years has the company begun to recognize the benefits of computer training for its employees. The company president, Arline Savage, is thinking about hiring a training company to give onsite classes. To pursue this option, the company would set up a temporary “computer laboratory” in one of the meeting rooms, and the trainers would spend all day teaching one or more particular types of software. You have been hired as a consultant to recommend what type of training would best meet the firm’s needs. You begin your task by surveying the three primary corporate departments: sales, operations, and accounting. You find that most employees use their personal computers for only five types of software: (1) word processing, (2) spreadsheets, (3) database, (4) presentations, and (5) accounting. The accompanying table shows your estimates of the total number of hours per week used by each department on each type. of software.
Department (number of employees)
Sales (112) Operations (82) Accounting (55)
Word Processing Spreadsheet Database Presentation Accounting
5. The local Episcopal Church operates a retail shop. The inventory consists of the typical items sold by commercial gift shop sales are to tourists and 20% are to church members. The net income of the gift shop, before the salaries of the three gift shop employees and any Federal income tax is $300,000. The salaries of the employees total $80,000.
What is the tax liability for the church?______________________________
Problem 1. Feeder Organization Calculation
Repair Habitat Inc., a § 501(c)(3) organization, receives the following revenues and incurs the following expenses.
Grant from Habitat for All Foundation $150,000
Charitable contributions received 225,000
Expenses in carrying out its exempt mission 300,000
Net income before taxes of Concrete Pour, Inc., a
Wholly owned for profit subsidiary 85,000
Concrete Pour, Inc. remits all of its after tax profits each year to Repair Habitat. Calculate the amount of Federal income tax, if any, for Repair Habitat and for Concrete Pour. Show your calculation in good form.
Problem.2 State Modifications
Citrine Corporation is subject to a corporate income tax only in State X. The starting point in computing X taxable income is Federal taxable income. Citrine’s Federal taxable income is $400,000, which includes a $55,000 deduction for state income taxes. During the year, Citrine received $150,000 interest on Federal obligations and $65,000 of interest on State Z obligations. X does not allow a deduction for state income tax payments, but it does exclude interest earned on its own obligations.
Required: Prepare a schedule in Good Form that determines Citrine’s taxable income for State X purposes. All items should be labeled.
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5. The local Episcopal Church operates a retail shop. The inventory consists of the typical items sold by commercial gift shop sales are to tourists and 20% are to church members. The net income of the gift shop, before the salaries of the three gift shop employees and any Federal income tax is $300,000. The salaries of the employees total $80,000. What is the tax liability for the church?______________________________ Problem 1. Feeder Organization Calculation Repair Habitat Inc., a § 501(c)(3) organization, receives the following revenues and incurs the following expenses. Grant from Habitat for All Foundation $150,000 Charitable contributions received 225,000 Expenses in carrying out its exempt mission 300,000 Net income before taxes of Concrete Pour, Inc., a Wholly owned for profit subsidiary 85,000 Concrete Pour, Inc. remits all of its after tax profits each year to Repair Habitat. Calculate the amount of Federal income tax, if any, for Repair Habitat and for Concrete Pour. Show your calculation in good form. Problem.2 State Modifications Citrine Corporation is subject to a corporate income tax only in State X. The starting point in computing X taxable income is Federal taxable income. Citrine’s Federal taxable income is $400,000, which includes a $55,000 deduction for state income taxes. During the year, Citrine received $150,000 interest on Federal obligations and $65,000 of interest on State Z obligations. X does not allow a deduction for state income tax payments, but it does exclude interest earned on its own obligations. Required: Prepare a schedule in Good Form that determines Citrine’s taxable income for State X purposes. All items should be labeled. Created with an evaluation copy of Aspose.Words. To discover the full versions of our APIs please visit: https://products.aspose.com/words/ ?PAGE ??
Consolidated Financial Statements with Non Controlling Interests
INSTRUCTIONS
The assignment is to be prepared using Excel spreadsheet
The assignment marking guide can be found as the last pages of this document. Use the marking guide sheet to see what is expected and how your work will be marked. Significant emphasis is placed on the correctness of the journal entries so ensure you spend adequate time on these. Review your work before submission and consider how wellhave met the expected standards (performance levels) for the criteria identified.
Marks will be deducted for poor quality presentation, for incorrect work, and for missing work.
QUESTION
Using the information below and on the next two pages, prepare the following as at 30th June 2014:
PART A: Adjustment/elimination journal entries for consolidation at that date; and
PART B: Detailed calculation of non controlling interest balance and consolidation worksheet; and
PART C: Consolidated financial statements and statements of changes in equity for the group and parent.
INFORMATION
For the year ended 30 June 2012:
On 1 July 2011 Harbour Ltd created a group entity when it purchased 80% of the issued capital of Bridge Ltd for $440,000 cash. On acquisition Bridge Ltd’s accounts showed: Share capital $300,000 and Retained earnings $125,000. All assets and liabilities appearing in Bridge Ltd’s financial statements were fairly valued, except:
An item of Bridge Ltd’s plant, that had originally cost $157,000 and had a carrying value of $100,480, was undervalued by $30,000. The plant was still on hand at 30 June 2014.
Bridge Ltd had an internally developed identifiable intangible asset, a patent, with a fair value of $35,000.
During the year Bridge Ltd made sales of inventory to Harbour Ltd of $70,200. Harbour Ltd’s closing inventories on 30 June 2012 included $33,600 bought from Bridge Ltd (which included the intragroup mark up on original cost price).
For the year ended 30 June 2013:
On 1 January 2013 it was decided that goodwill acquired in Bridge Ltd should be marked down at a rate of 10% per annum from this date forward (% based on the original value you calculated at acquisition).
Also on 1 January 2013 Harbour Ltd sold plant to Bridge Ltd for $35,000. This was financed by a short term interest free loan from Harbour Ltd. The plant had originally cost $82,000 when purchased on 1 January 2010.
Harbour Ltd declared and paid dividends of $50,000 for the year. Bridge Ltd did not declare or pay any dividends for the year.
For the year ended 30 June 2014:
During the year Bridge Ltd made sales of inventory to Harbour Ltd of $88,100.
Harbour Ltd’s inventories included the following amounts bought from Bridge Ltd (which included the intragroup mark up on original cost price): Closing inventory on 30 June 2014 was $13,300; and Opening inventory on 1 July 2013 was $9,100.
Harbour Ltd charged management fees to Bridge Ltd.
Dividends were declared/paid by both companies.
Non controlling interests to be recognized.
ADDITIONAL INFORMATION:
The company tax rate is currently 30% and it has been this rate for many years.
Harbour has the following accounting policies for the group:
(i) Revaluation adjustments on acquisition are to be made on consolidation only, not in the books of any subsidiary;
(ii) Non controlling interests are measured at the proportionate share of a subsidiary’s identifiable net assets;
(iii) Intragroup sales of inventory to be at a markup of 40% on cost;
(iv) Plant is depreciated using the diminishing value method at a rate of 20% p.a. (also known as the declining balance or diminishing balance method); and
(v) All calculated amounts to be rounded to the nearest whole dollar.
NOTE:
You MUST number your journal entries as they relate to the point numbers for each “event” as given in the information. Where more than one journal is needed for an “event” to be completely accounted for add the letters a,b,c,…etc to them as necessary. [For example, if three separate journal entries are required to fully record the information detailed in point number 1, then the first journal will be 1a and the second is to be 1b and the third 1c.] Short narrations are expected for each journal entry. Marks will be lost if journals are not presented in a clear and professional manner (i.e. poor or unclear presentation can include showing the debit entry on one page but the credit entry on another, or not clearly distinguishing between debit and credit entries).
The required statements for both the group and the parent company are: the statement of comprehensive income, statement of financial position, and statement of changes in equity. Notes to the statements are not required. Marks will be lost if statements are not presented in a clear and professional manner (i.e. poor or unclear presentation can include splitting the reports over two pages, so start each statement on a new page!).
You may “cut and paste” the financial information on the next page into your excel file, but no other information is to be copied into your file from anywhere else.
You are expected to use at least the basic formula functions in Excel when preparing worksheets and financial statements (i.e. use Excel formulas to add totals and sub totals etc, rather than calculating values manually and then just typing them in to the spreadsheet!).
ACG 36 Financial Accounting 3 2014 Assignment 2 Instructions Due date: 1.00pm Monday 5 May 2014 Length: 2,500 words equivalent, made up of calculations, words and copies of Annual Report material. Total length, including coversheet, feedback sheet and everything is not to exceed 25 pages. You are not to alter the margins on the Template and must use either Arial 10, Times New Roman 12 or Calibri 11 font. Maximum file size is 2MB. Weighting: 25% This is an individual assignment. Any assistance must only come from the course coordinator either directly or via the course Discussion Forum. The skills that students need to demonstrate in this assignment are important for them to be able to do on an individual basis, hence it is not appropriate to seek assistance from other students. The Graduate Qualities this assignment should develop for a student are: 1. operates effectively with and upon a body of knowledge of sufficient depth to begin professional practice (Questions 1 3) 2. is prepared for lifelong learning in pursuit of personal development and excellence in professional practice (Questions 2 3) 3. is an effective problem solver, capable of applying logical, critical and creative thinking to a range of problems (Questions 1 3) 6. communicates effectively in professional practice and as a member of the community (Question 2) 7. demonstrates international perspectives as a professional and as a citizen. (Question 2) Plagiarism and referencing Plagiarism is regarded as a serious issue within the university system with severe consequences for students who have been found to have plagiarised, often the minimum penalty being zero for the assignment. You should be aware that in previous offerings of this course a number of students were referred to the Academic Integrity Officer. All students should ensure that they are familiar with the plagiarism policy and referencing requirements before commencing the assignment in this course. Remember • If information contained in the assignment is not your own words or ideas you must acknowledge the source within the text of the paper as well as in the reference list. Prepared for UniSA 2014 Page 2 of 6 • If you use another person’s words (i.e. you quote) you must indicate that this is a direct quote (usually by quotation marks) and reference the source (including the page number) within the text of the paper. Including the source in the reference list or bibliography is not sufficient. Changing, deleting, adding only a few words, or rearranging the sentence/paragraph does not negate that fact that you are quoting. If paraphrasing, you still need to include an in text reference (which includes the page number). And take care that the paraphrasing is not ‘too close’ to the original; i.e. that it is in fact a quote. • The fact that the source of the material is from an Internet site, and/or the specific author cannot be identified does not negate the need to acknowledge the source of the ideas or words, or to reference correctly. If you need help with referencing, please refer to the following resources available from the Learning Connections website at: http://resource.unisa.edu.au/course/view.php?id=1572&topic=all You should be aware that academic misconduct includes the following: 9.2.2 (c ) submitting another student’s work in whole or in part, where such assistance is not expressly permitted in the course information booklet; 9.2.1 (d) inclusion of material in individual work that has involved significant assistance from another person, where such assistance is not expressly permitted in the course information booklet (e) providing assistance to a student in the presentation of individual work, where such assistance is not expressly permitted in the course information booklet. (In this course it is expressly not permitted) While it is understandable that pressures from fellow students are sometimes difficult to resist and it is acceptable (and indeed generous) to assist other students by discussing issues relating to assignments, it is not acceptable to provide access to, or copies of, your own assignment (or part of your assignment) to other students. Nor is it acceptable to use another student’s work as the basis for submission of your own (or part of your own) assignment, whether quoting, paraphrasing or simply using their ideas. We recommend that you seek assistance from the course coordinator or course discussion forum as these will not cross the line into unacceptable assistance. Note that it is intended that assignments in this course will be checked, using text comparison software, for instances of plagiarism or collusion. Instructions: 1. Downloads for this assignment are under the “Assignments” link on the course web site. 2. Download the appropriate Assignment 2 Template from the course learnonline site. 3. Download the Excel Assignment 2 Questions 2014 from the course web site. Prepared for UniSA 2014 Page 3 of 6 4. Enter your University of South Australia student ID number in the yellow boxes of the Excel document and this will change the numbers and some words in the assignment to make it your individual assignment. For example: Financial Accounting 3 Assignment 2 2014 Enter your nine digit Student ID number below. If you have an older Student ID with 8 numbers and a letter on the end then put a 1 in the first space blank and then enter the 8 numbers of your ID 1 0 0 2 3 4 5 6 5 Make sure you use your University of South Australia student ID number as any assignments with the wrong number, and therefore wrong question for you, will not be marked. 5. Fill in your details at the top of the Word template. You must use the Word Template provided or your assignment will be sent back to you to redo. 6. Please do not include the questions in your answer template and do not include the feedback sheet, we will give the markers a feedback sheet for you. 7. Complete the assignment on the Assignment 2 Template making sure that as well as answering question 1 from the Excel spreadsheet you also answer questions 2 and 3 from below. 8. Do not, under any circumstances, copy any of your answer into the Assignment 2 Template from any other source including another Word document or an Excel worksheet. You must type your answer direct onto the Template. You can set up tables within the Template if this helps you improve the layout of your answer. Anything copied and pasted into the Template will not be marked. The ability to follow instructions is an important skill for an aspiring accountant as you will have to do this often in your early career. 9. When answering the questions in this assignment assume the marker knows nothing at all about this material and that you are teaching them. This way you are likely to produce a better answer as you must be clear enough that someone who has never done the course actually understands what you are trying to communicate. 10. Lodge your assignment via the course Learnonline site. Question 2: AASB132 Debt vs. Equity “The debt versus equity distinction is often of great concern to many reporting entities.” Provide explanations in your own words to support this statement. Further, with reference to AASB 132, explain in your own words how an entity distinguishes between financial liabilities and equity instruments. You are not to copy your answers from any source. Remember that even though this is in your own words any ideas taken from another source must be referenced in text so we will expect in text Prepared for UniSA 2014 Page 4 of 6 referencing in all students’ answers. It is recommended that prior to answering this question you go to the following web site and work through the online workshops: http://resource.unisa.edu.au/course/view.php?id=1572 One of the most common comments written by markers on past assignments is: Changing a few words does not make a quote a paraphrase or “in your own words”. Please help us with our aim to never need to write this again. Finding your own voice in writing is an important skill and, though it still requires good referencing, it allows the reader to know what you understand not what you can copy. Let’s be honest, the marker is just as capable of using google as you are so don’t insult their intelligence by copying and expecting them to mark. Give them something original to mark. [Markers will be asked to read and keep a copy of the standard and reading for this topic open when marking this question and comparison software will be used to check other sources. Answers found to be copied and not in a student’s own words will be heavily penalised. We want to know what you understand, we are not interested in what you can copy or quote.] 20 marks Using at least two examples explain why the distinction between a financial instrument being a Liability or Equity is important. 10 marks Suggested length is approximately 500 words for this question but note that your whole assignment must remain within the restrictions set out at the beginning of this assignment. Question 3: Consolidations Obtain a copy of a Group Financial Report for 2013 that uses the latest reporting requirements of just showing the Consolidated results in the Financial Statements and including a note to the accounts regarding the Parent. Any assignment not using a 2013 report will receive zero for this question. The Group must be listed on the Australian Stock Exchange so that it complies with the AASB. The name of the Group must begin with the same letter of the alphabet as one of your own names, e.g. John Medlin could use Jumbuck Entertainment Ltd or McPhersons Ltd. You may need to use a couple of different companies’ Annual Reports to fulfil all of the requirements of this part of the assignment. You cannot use Boral Ltd, Wesfarmers Limited or BHPBilliton Ltd as these have been used regularly for lecture examples. Students repeating this course are required to use a different company from any similar assignment in their past enrolments. To obtain copies of Financial Reports you could Google “ASX” on the internet and from the options select “Prices, Research & Announcements”, then “Company research” and then “View complete list”. Once you have found a potential company to use, search their web site and look for their “investor information” links and download a pdf version of their latest Annual Report to your computer. If you then make sure you are using the latest version of Adobe Reader X (free download from the Adobe web site) open the report in Adobe Reader and you can go to “Edit” => “Take a Snapshot” and this will let you select the section of the document you wish to copy and you can then simply paste that into a Word document using Ctrl+v. Do not paste as a picture or the file size will blow out and you won’t be able to lodge your assignment. Do not copy the whole of the financial Prepared for UniSA 2014 Page 5 of 6 reports and notes to your assignment but only small snapshots like those you see in lecture Powerpoints for this course. In the following requirements the company you have chosen will simply be referred to as “Group X”. You have to replace this in the question with the name of the company you are using, for example Boral. Required: You are required to provide the relevant paragraphs of the AASB Standards for all of the following requirements: 1. From the note on Significant Accounting Policies show the sections regarding Financial Assets and show how these are consistent with the AASB 139 requirements regarding recognition and measurement. To do this create a table with two columns and put the copy of the Group’s notes down the left side and in the right hand column enter the relevant paragraphs from AASB 139. Use underlining of the example in the left hand column and arrows from the paragraphs in the right hand column to show specifically which sections of the example relate to which paragraphs of AASB139 (Do not cover hedge or derivative instruments)[Remember that you may use more than one Group to complete the assignment if you need to cover both the Financial Assets and Consolidation requirements. All must comply with the rules regarding your initials]. 5 marks 2. From the Statement of Financial Position, Statement of Comprehensive Income and Statement of Changes in Equity (or whatever name your Group gives these statements) demonstrate how the disclosure of Financial Assets is consistent with AASB 7. (Do not cover hedge instruments, or the Notes to the Accounts except to the extent that these provide disaggregation of the numbers in the statements). To do this copy sections from the financial statements into your assignment and explain, with AASB 7 references, how this is consistent with the standard. 5 marks Prepared for UniSA 2014 Page 6 of 6 3. Demonstrate, with examples from your copy of Financial Reports, how the Parent of Group X controls its Subsidiaries. Do this by providing a copy of the note on the list of subsidiaries in the body of your report (if the list is long just provide a short section of it with the first few and last few subsidiaries and any with unusual percentage holdings) and comment on any Subsidiaries that are less than 100% owned by the Parent. In particular look at subsidiaries where less than 50 % of the shares are held. 5 marks 4. Compare the Issued Capital in the Balance Sheet or Statement of Changes in Equity of the Group with that of the Parent in the note on Parent Entity Disclosures by providing examples and discussing the similarities. Make sure you highlight the relevant numbers in each section and use arrows, or something similar, so the reader knows what you are trying to highlight. Consider why we would expect these amounts to be similar. 5 marks 5. Refer to Group X’s note on intangibles or goodwill and demonstrate and explain whether there is evidence of the group purchasing or disposing of subsidiaries in the past two reporting periods. If possible show an acquisition analysis from the notes to the accounts for a bonus 2 marks. These are often under a note about acquisition of controlled entities. 4 marks 6. Explain where in the consolidated Financial Statements of Group X would you find evidence of a Non Controlling Interest (NCI) using AASB references to justify your answer. Either from Group X, or another group if Group X doesn’t have NCI, show examples of NCI in each of the Financial Statements. 8 marks 7. From the notes on accounting policies show the notes regarding consolidation methods/principles used and show how these are consistent with the AASB requirements regarding consolidation methods/principles. To do this create a table with two columns and put the copy of the Group’s notes down the left side and in the right hand column enter the relevant paragraphs from AASB10, AASB12 and AASB3. 8 marks Format/expectations Report format is not required for this assignment. You should give some thought however to the most effective way to present the material – the information must be presented in a business standard document. Your assignment must be prepared in 1½ line or double spacing on single sided pages. A high standard of presentation is expected. This course forms part of a professional qualification and it is expected that students are able to present a paper of professional quality. At the very least, check spelling and grammar. Ensure that all aspects of the requirements have been addressed. Ensure that you comply with Harvard referencing conventions in preparing this assignment and that plagiarism is not an issue. You are expected to adhere to high standards of academic integrity and all assignments submitted in this course may be checked for plagiarism, using text comparison software and other means. .Marking criteria Marking criteria for this assignment are provided separately on a feedback rubric on the assignment Template.
Financial Accounting 3
Assignment 2 2014
Enter your nine digit Student ID number below. If you have an older Student ID with 8 numbers and
a letter on the end then put a 1 in the first space blank and then enter the 8 numbers of your ID
1
1
0
0
2
6
2
8
7
Question 1: Consolidations
On 1 July 2012 Black Ltd acquired all of the shares of Listz Ltd for
$1,526,100
At the 1 July 2012 the statement of financial position of Listz Ltd was as follows:
Listz Ltd
Statement of Financial Position
as at 1 July 2012
Current Assets
Current Liabilities
Cash at Bank
32,000
Accounts Payable
77,000
Accounts Receivable (net)
105,000
Inventory
105,000
242,000
Non Current Assets
Equity
Land
900,000
Share Capital
1,004,500
Motor Vehicles
70,000
Reserves
143,500
Plant and Equipment
300,000
1,270,000
Retained Earnings
287,000
1,435,000
1,512,000
1,512,000
The following information about the value of assets was provided:
Cost
Accum depreciation
Fair value
Inventory
$105,000
$126,000
Motor Vehicles
$98,000
$28,000
$77,000
Plant and Equipment
$375,000
$75,000
$345,000
The Motor Vehicle is expected to have a further 3 years useful life and the Plant and Equipment
is expected to have a further 5 years useful life. All inventory on hand at 1 July 2012 was sold
by 30 June 2013.
The tax rate is 30%.
Required:
a. Do the necessary acquisition analysis and provide the business combination valuation entries
and the pre acquisition adjustment entry at acquisition date.
10 marks
b. Provide the business combination valuation entries and the pre acquisition adjustment
Question 1 [60 marks]Tien Ltd acquired 80% of Chai Ltd on 1 July 2010. At the acquisition date, the equityof Chai Ltd was:$Share capital (100,000 shares) 100,000General reserve 3,000Retained earnings 37,000All the identifiable net assets of Chai Ltd were recorded at fair value at the date ofacquisition, except for the following assets:Carrying amount Fair value$ $Plant (cost $75,000) 50,000 55,000Land 30,000 38,000The plant has a further 10 year life, with benefits expected to be received evenly overthat period. The land was sold on 1 February 2011 for $40,000. Any valuation reservein relation to the land is transferred to retained earnings on consolidation.Three years after acquisition, the financial information at 30 June 2013 of the twocompanies appears as follows:Tien Ltd Chai Ltd$ $Sales 316,000 220,000Other revenue:Debenture interest 5,000 Management and consulting fees 5,000 Dividends from Chai Ltd 12,000 Total revenue 338,000 220,000Cost of sales 130,000 85,000Manufacturing expenses 90,000 60,000Depreciation on plant 15,000 15,000Administrative expenses 15,000 8,000Financial expenses 11,000 5,000Other expenses 14,000 12,000Total expenses 275,000 185,000Profit before tax 63,000 35,000Income tax expense (25,000) (17,000) Page 2 of 4Operating profit after tax 38,000 18,000Retained earnings 1 July 2012 50,000 45,00088,000 63,000Transfer to general reserve 3,000 Interim dividend paid 10,000 10,000Final dividends declared 10,000 5,00023,000 15,000Retained earnings 30 June 2013 65,000 48,000General reserve 50,000 10,000Other components of equity 13,000 10,000Share capital 300,000 100,000Debentures 200,000 100,000Current tax liability 25,000 17,000Dividend payable 10,000 5,000Deferred tax liability 7,000Other liabilities 90,000 12,000753,000 309,000AssetsFinancial assets 50,000 60,000Debentures in Chai Ltd 100,000 Shares in Chai Ltd 131,600 Plant (cost) 120,000 102,000Accumulated depreciation – plant (65,000) (55,000)Other depreciable assets 76,000 55,000Accumulated depreciation (40,000) (25,000)Inventory 90,000 85,000Deferred tax asset 85,400 30,000Land 201,000 57,000Dividend receivable 4,000 753,000 309,000
Additional information:(a) Tien Ltd uses the full goodwill method. The fair value of non controllinginterest at 1 July 2010 was $31,500.(b) The inventory on hand of Chai Ltd on 1 July 2012 included a quantity priced at$10,000 that was transferred from Tien Ltd during the prior financial year. Thisinventory had cost Tien Ltd $7,500. This entire inventory was sold by Chai Ltdto parties external to the group during the current financial year.(c) Chai Ltd sold inventory to Tien Ltd for $60,000 during the year. This inventoryhad an original cost to Chai Ltd of $55,000. This entire inventory was held byTien Ltd during the year.(d) On 1 January 2012, Chai Ltd sold an item from its inventory to Tien Ltd for$20,000. Tien Ltd had treated this item as an addition to its plant. The item wasput into service as soon as received by Tien Ltd and depreciation charged at20% p.a. The cost of that item to Chai Ltd was $15,000.Page 3 of 4(e) The management and consulting fees of Tien Ltd were all paid by Chai Ltd andrepresented charges made for administration $2,200 and technical services$2,800. The latter were recognised as manufacturing expenses by Chai Ltd.(f) All debentures issued by Chai Ltd are held by Tien Ltd. The related interest hasbeen recorded by Tien Ltd accordingly and Chai Ltd recorded the interest paidin financial expenses.(g) Other components of equity relate to movements in the fair values of thefinancial assets. The balance of these accounts on 1 July 2012 was $10,000 forTien Ltd and $8,000 for Chai Ltd.(h) The tax rate is 30%.Required:A. Prepare an acquisition analysis and the consolidation journal entries necessaryfor preparation of the consolidated financial statements for the year ending 30June 2013 for the group comprising Tien Ltd and Chai Ltd.B. Complete a detailed consolidation worksheet for the year ending 30 June 2013.Note: show all necessary workings, narrations are not required.
Tien Ltd acquired 80% of Chai Ltd on 1 July 2010. At the acquisition date, the equityof Chai Ltd was:$Share capital (100,000 shares) 100,000General reserve 3,000Retained earnings 37,000All the identifiable net assets of Chai Ltd were recorded at fair value at the date ofacquisition, except for the following assets:Carrying amount Fair value$ $Plant (cost $75,000) 50,000 55,000Land 30,000 38,000The plant has a further 10 year life, with benefits expected to be received evenly overthat period. The land was sold on 1 February 2011 for $40,000. Any valuation reservein relation to the land is transferred to retained earnings on consolidation.Three years after acquisition, the financial information at 30 June 2013 of the twocompanies appears as follows:Tien Ltd Chai Ltd$ $Sales 316,000 220,000Other revenue:Debenture interest 5,000 Management and consulting fees 5,000 Dividends from Chai Ltd 12,000 Total revenue 338,000 220,000Cost of sales 130,000 85,000Manufacturing expenses 90,000 60,000Depreciation on plant 15,000 15,000Administrative expenses 15,000 8,000Financial expenses 11,000 5,000Other expenses 14,000 12,000Total expenses 275,000 185,000Profit before tax 63,000 35,000Income tax expense (25,000) (17,000) Page 2 of 4Operating profit after tax 38,000 18,000Retained earnings 1 July 2012 50,000 45,00088,000 63,000Transfer to general reserve 3,000 Interim dividend paid 10,000 10,000Final dividends declared 10,000 5,00023,000 15,000Retained earnings 30 June 2013 65,000 48,000General reserve 50,000 10,000Other components of equity 13,000 10,000Share capital 300,000 100,000Debentures 200,000 100,000Current tax liability 25,000 17,000Dividend payable 10,000 5,000Deferred tax liability 7,000Other liabilities 90,000 12,000753,000 309,000AssetsFinancial assets 50,000 60,000Debentures in Chai Ltd 100,000 Shares in Chai Ltd 131,600 Plant (cost) 120,000 102,000Accumulated depreciation – plant (65,000) (55,000)Other depreciable assets 76,000 55,000Accumulated depreciation (40,000) (25,000)Inventory 90,000 85,000Deferred tax asset 85,400 30,000Land 201,000 57,000Dividend receivable 4,000 753,000 309,000Additional information:(a) Tien Ltd uses the full goodwill method. The fair value of non controllinginterest at 1 July 2010 was $31,500.(b) The inventory on hand of Chai Ltd on 1 July 2012 included a quantity priced at$10,000 that was transferred from Tien Ltd during the prior financial year. Thisinventory had cost Tien Ltd $7,500. This entire inventory was sold by Chai Ltdto parties external to the group during the current financial year.(c) Chai Ltd sold inventory to Tien Ltd for $60,000 during the year. This inventoryhad an original cost to Chai Ltd of $55,000. This entire inventory was held byTien Ltd during the year.(d) On 1 January 2012, Chai Ltd sold an item from its inventory to Tien Ltd for$20,000. Tien Ltd had treated this item as an addition to its plant. The item wasput into service as soon as received by Tien Ltd and depreciation charged at20% p.a. The cost of that item to Chai Ltd was $15,000.Page 3 of 4(e) The management and consulting fees of Tien Ltd were all paid by Chai Ltd andrepresented charges made for administration $2,200 and technical services$2,800. The latter were recognised as manufacturing expenses by Chai Ltd.(f) All debentures issued by Chai Ltd are held by Tien Ltd. The related interest hasbeen recorded by Tien Ltd accordingly and Chai Ltd recorded the interest paidin financial expenses.(g) Other components of equity relate to movements in the fair values of thefinancial assets. The balance of these accounts on 1 July 2012 was $10,000 forTien Ltd and $8,000 for Chai Ltd.(h) The tax rate is 30%.Required:A. Prepare an acquisition analysis and the consolidation journal entries necessaryfor preparation of the consolidated financial statements for the year ending 30June 2013 for the group comprising Tien Ltd and Chai Ltd.B. Complete a detailed consolidation worksheet for the year ending 30 June 2013.
Tien Ltd acquíred 80°Zo of Chai Ltd on 1 July 2010. At the dü9″ •'”on date, th* ° 9•ity of Chat Ltd was:
Shane capital ( 100,000 shares}
Genera) reserva
lODO
Retained eamings
37,000
All the identifiable nei assets of Char Ltd were recorded ai fair value at the date of act uisitiun, except for the following asxets:
C’or/ yfng omouri/
tair o/ue
Plnni (cost $75,000)
50,000
55,000
Land
30,000
The plant has a further 10 year life, with benefits expected to be received evenly over that period. The land was sold on 1 February 2OH for $40,000. Any valuation reserve in relation to the land its transferred to retained earnings on consolidation.
Three years afier acquisition, the Financial infurmatinn at 30 lime 2Ol2 of the two
cumpxksappeamasfoMows:
T1ea Ltd Cbai Ltd
Salex
Older rerenre.
Debenture interest
Management and consulting feex
316,000
5,000
5.ooo
220,000 Dividends from Chai Ltd 12,000 Total revenue Cust of salex
Manufacturing expenses Depreciation on plant Administrative expenses Financial expenses
33g,ooo
130,000
90,000
15.000 l5;000 11,000
220,000
85,000
60,000
15,000
a,o0o
5,000 Other expenses
Total expen ses Profit befisre iax lBCOrfie fax ex§enSe
14,000
275.000
63.000
{23,000)
12,000
185,000
35,000
o›,onn ›
Rctained cuminps 1 July 2012 Transfer to general reserve
50,000 f¡s,000 3,000
45,000 63.000
interviu dividcnd paid
10.000
10,000
Final div idends declared 10,000 5.ß00 23.000 1 5,000
65.tltltl
45,000
General rexcrve
50.000
l 0,000
Other coiuponcnts of equitJ’
13.000
10,000
Share Kapital
300,000
100, ß00
Debentures
200,000
100,000
Current tax liability
25.000
17,000
Di›’idend payable
10,000
5,000
Deferred cx I iabilitJ’
7,000
Other tiabilities
90.000
11000
753.000
300,000
A.s.set.s
Finiinciul assets
50.000
6›0,000
Debentures in C’hai Ltd
100,000
Shares in Chai Ltd
131,600
Plant (cost)
120.000
1 02,000
Aceuniulat ed depreciation — plant
(ö5,000)
(55,000 )
Other depreciabl e assets
7fi,000
55,000
Aceumulat ed depreciaiit›n
(25,000)
lnx’entorv
90,000
55.000
Deferred iux asset
55,400
30,000
Land
201,000
57,000
Dix’idend recei›’abIe
4,000 7f.1,000
Operaiing profit a fier tax
35,000
l 5,000
Additional information.
Tien Ltd user the full goodwill method. The fair value of non ccntrolling
interest at 1 July 2010 was $31,500.
The inventory on hand of Chai Lid on 1 July 2012 included a quantity priced at
$10,000 that wax transferred from Tien Ltd during the prior financial year. This inventory had cu.st Tien Ltd 57,500. Tbis entire inventory was scl¢l by Chai LM to partie* external to tile group during the current financial year.
Chai Lld sold inventory to Tien Ltd for $60,000 during the year. This inventory had an original cost In Chai Ltd of $55,000. This entire inventory was held by Tien Ltd during the year.
On 1 January 20 12, Char Ltd sold an item frum its inventury tn Tien Ltd for
$20,000. Tien Ltd had treated this item as an addition to its plant. The item was put into service as soon as received by Tien Ltd and depreciation charged at 20% p.a. The cost of that item to Chai Ltd wax $1 5,000.
The management and consulting fees of Tien Ltd were all paid by Chai Ltd and
represented charges made for administration $2,200 and technical services
$2,800. The fatter were recognised as manufacturing expx by Char Ltd.
All debentures issued by Chai Ltd are held by Tien Ltd. The related interest has been recorded by Tien Ltd accordingly and Chai Ltd recorded the interest paid in financial expenses.
Other eomponents of oquity relate to rnovements in the faiT YälueS of the r.«aiicia) assets. Tbe bàiaoce uf thèse arcounts On 1 July 2012 was $10,000 for Tien Ltd and $8,000 for Chai Ltd.
The tax rate is 30%.
Prep * •” 9*’• itiun afialysis and the consolidation journal entries necessary for preparation of the ‹x›nxolidated financial statements for the year ending 30 June 2013 fur the group comprising Tien Ltd and Char Ltd.
Complete a detailed consolidation woràsheet for the year ending 30 June 2013.
Lollar, Inc., is a giant provider of home furnishings. The company uses the FIFO inventory method. The following information was taken from the company’s recent financial statements (dollar amounts are in thousands):
Cost of goods sold
$
1,850,000
Income before taxes
125,000
Income taxes expense (and payments)
52,500
Net income
72,500
Net cash provided by operating activities
123,250
The financial statements also revealed that had Lollar been usingLIFO, its cost of goods sold would have been $1,865,000. The company’s income taxes and payments amount to approximately 40 percent of income before taxes.
Cost Price Retail Selling Price Inventory of merchandise, June 30 $ 300,000 $ 50…
An ambulatory clinic, structured as a physicians’ partnership, has 7 responsibility centres: Administration, Administrational Support, Facilities Management, Environmental Support, Imaging, Clinical Services, and Surgical/Invasive Services. Last year’s balance sheet and income statement are shown below. Being structured as a for profit partnership, there are some minor differences in the financial statements from the corporate formats used in class. For example, the equity section of the balance sheet is comprised primarily of 2 accounts: the capital and current accounts. Typically, each partner has their contributed capital listed in the capital account and their share of the company’s accumulated profits (retained earnings) listed in their current accounts.
AMBULATORY CLINIC PARTNERSHIP
BALANCE SHEET, December 31, 2013
ASSETS
Cash and equivalents $ 220,000
Net accounts receivables 320,000
Supplies 180,000
Pre paid expenses 190,000
Other 250,000
Total Current Assets $ 1,160,000
PP&E $ 2,140,000
Accumulated depreciation 550,000
Net Fixed Assets $ 1,590,000
Goodwill 260,000
Other Intangibles 50,000
TOTAL ASSETS $ 3,060,000
LIABILITIES
Accounts payable $ 180,000
Salaries payable 160,000
Taxes payable 50,000
Current portion of L T debt 100,000
Notes payable 70,000
Unearned revenues 40,000
Total Current Liabilities $ 600,000
Debentures, less current portion 380,000
Mortgages, less current portion 380,000
Total Long term Liabilities $ 760,000
EQUITY
Capital account (total) 900,000
Current account (total) 800,000
Total Equity $ 1,700,000
TOTAL LIABILITIES & EQUITY $ 3,060,000
AMBULATORY CLINIC PARTNERSHIP
INCOME STATEMENT, Year Ended December 31, 2013
Gross Patient Revenue $4,500,000
Deductions & Bad debt 850,000
Net Patient Revenue $3,650,000
Interest Revenue 150,000
Total Net Revenues $3,800,000
Operating Expenses
Salaries/wages expense $2,050,000
Lease expense 500,000
Supplies expense 400,000
Utilities expense 300,000
Miscellaneous 150,000
Total Operating Expenses $3,400,000
Earnings before interest,
depreciation, & amortization 400,000
Depreciation expense 153,000
Earnings before interest 247,000
Interest expense 50,000
Net Income $ 197,000
The clinic is trying to plan for next year’s operations. They are assuming that their sales activity will increase by 20%. They are interested in determining what, if any, will be their future additional funds needs. Currently, the fixed assets are operating at 90% capacity, meaning they have excess capacity in fixed assets. When using the percentage of sales method for forecasting funding needs, make sure you only take into consideration that accounts that would be expected to increase with sales. Some accounts will not be increasing just because sales are expected to increase. Those accounts affected by sales changes tend to be related to daily operations.
Exceptions to the spontaneous assets and liabilities criteria are the relevant funding accounts, specifically: short term debt, long term debt, and equity accounts. The following are specific conditions of these accounts for this practice:
1) Current portion of long term debt is not considered short term debt. It represents the portion of long term debt due this year. Any changes you make to funding accounts will not affect this account, even if you were to change long term debt accounts.
2) Notes Payable is a type of short term debt that can be used to allocate funding needs. Interest rates on short term debt will run at 5% per year.
3) Debentures, less current portion, represent a type of long term debt that is sometimes referred to as line of credit. It is essentially just a bank loan. The amount listed is the amount remaining to be paid after this period.
Mortgages, less current portion, are similar to Debentures except they are obligations tied to specific assets. Both accounts can be increased or decreased and will not affect the total current portion of long term debt until the following year.
Total long term debt is decreased the following year by the previous year’s current portion of long term debt.
Interest rates on all long term debt will run at 4.27% per year.
4) In partnership organizations, Capital Accounts represent the total of each individual partner’s investment in the firm. It is similar to common stock plus paid in capital for a corporation. Typically, each partner’s capital account is designated but here it is totaled for you.
The Current Accounts is similar to the retained earnings of a corporation, but it keeps track of the amount of profit due to each partner and their total investment.
When performing you pro forma statements, keep in mind the following requirements of the firm:
1) The partners wish to maintain a current ratio of at least 1.8527
2) The long term debt ratio should not exceed .61
3) An ROE of at least 0.11 is desired
4) Next year, the partners will be withdrawing $145,000 in distributions (similar to dividends)
5) Annual dividends are held at a constant rate. If any new capital investments are acquired, then additional dividends would be calculated using the same rate.
For this semester’s course project, you have to analyze the following case:
Brinkers’ Bicycle Shop: A Special Order Decision
Your analysis should include the following steps, to the extent logical and possible, given the character of the case:
Identify and describe or explain the problem that the managers of the organization in question are encountering. What has happened to make the managers realize that the problem has arisen? What is the likely cause of the problem? Why is the problem important?
Analyze the problem, using tools and concepts that we have been studying, as well as your general business and management knowledge. Analyze the situation from a quantitative perspective, using the data available in the case, and from operational, qualitative and strategic perspectives. Use diagrams/tables to conduct your analysis and to report your findings. Your analysis should show that you can use these tools and concepts and the language of management accounting correctly and articulately.
Draw conclusions regarding the nature of the problem and possible solutions, and develop recommendations for the managers in question.
Write a memorandum to the organization’s managers that summarizes your analysis, findings and recommendations. The memo should contain:
An introductory paragraph which explains the purpose of the memo and summarizes the analysis that you have conducted, your findings and your recommendations.
One or more paragraphs that describe and explain in some detail the problem(s) that you have identified, the analysis that you have conducted, your findings and conclusions, and your recommendations. If you have made any assumptions in conducting your analysis, be sure to state them clearly and to justify them. Also, be certain to describe any limitations of your analysis, for example, data which is not available but would be useful.
The memo itself should only be a few pages. Attach one or more appendices that include diagrams and tables, for example, your spreadsheet analysis, to support your analysis and conclusions. Present and number the diagrams/tables in the order in which you refer to them in the body of your memo.
The memo and appendices should have professional tones and writing styles and must be typed.
This is a group project. You will be assigned in a group of up to three students.
Managerial Accounting (AF 211)
Brinkers’ Bicycle Shop: A Special Order Decision
“This offer is the greatest thing that’s happened to us since we started this business!”
Hans “Five speed” Brinker, founding partner, Brinkers’ Bicycle Shop
“Just slow down a minute, Five … there could be a lot more to this decision than first meets the eye …”
Hans and Wilbur Brinker turned their passion for tinkering with bikes, building customized bicycles, and racing into their own bicycle shop just two years ago. They currently produce: a standard model five speed bicycle for amateur touring and racing, customized versions of that bicycle for more serious racers, and customized mountain and sand bikes. The standard model has become well known for its value, that is, for its high quality and reasonable price. It now accounts for nearly half of the shop’s monthly sales. The following table contains details regarding the standard model’s sales, costs and revenues.
The Brinkers also provide high quality, reasonably priced customization and repair services. The Brinkers’ monthly sales are finally generating enough contribution margin to cover the shop’s fixed costs and leave a small but reliable positive net operating income. In fact, the Brinkers are doing so well that they are on the verge of needing more shop and storage space. The business next door is willing to rent them a suitable space for $600 per month.
The Brinkers currently employ one full time employee, Orville Quinn, to assist in organizing parts before assembling bicycles, assembling the bicycles themselves, and testing newly assembled bicycles for performance quality, as well as serving customers. In addition to collaborating with customers on their bicycles’ designs, Quinn takes orders and takes customers for trial rides. Brinkers employ Quinn for eight hours per day, 25 days per month, at $15 per hour. On average, it takes about four hours to carry out all of these activities for a given sale, so Quinn can be considered able to assemble and test about two bicycles per day.
As evident from the quotes above, Five speed and Wilbur Brinker are beginning to discuss an offer that they have just received from a small, local retail chain of sporting goods stores, Sports City. Sports City would like to purchase fifty of the standard model five speed bicycle per month under a three month contract for $200 per bike. The bikes would be produced in three colors unique to Sports City and bear the Sports City logo. Sports City, in turn, would sell the bikes in their stores for $250 each. If the bikes sell well, Sports City will likely offer the Brinkers a second six month contract for 75 bicycles per month under the similar terms.
Should the Brinkers accept this offer right away? What quantitative factors and what operational, qualitative or strategic factors should Five speed and Wilbur take into account in making this decision?
Imagine that you are a summer intern working for the Brinkers. Please conduct an analysis of this situation and develop a recommendation for the Brinkers. Then write a memorandum to Hans and Wilbur Brinker in which you characterize the problem that they are encountering and identify its causes, summarize the analysis that you have conducted, and make your recommendation. Please support your analysis with pertinent tables or exhibits.
Suzuki ltd has a division that manufacture two wheel motorcycles. Its budgeted sales for model G in 2012 is 450,000 units. Suzuki target ending inventory is 40000 units and it beginning inventory is 50,000 units. The company budgeted selling price to its distributions and dealers is $4000 per motorcycle.
Suzuki buys all its wheels from an outside supplier. No defective wheels are accepted. (Suzuki needs for extra wheels for replacement parts are ordered by separate division of the company). The company target ending inventory is 30,000 wheels and its beginning is 25000 wheels. The budgeted price is 160 per wheel
Required
1. Compute the budgeted revenues in dollars
2. Compute the number of motorcycles to be produced
3. Compute the budgeted purchase of wheels in units and in dollars
Question two
abComp Inc. is a retail distributor for MZB 33 computer hardware and related software. TabComp prepares annual sales forecasts of which the first six months of the coming year are presented below. Hardware Hardware.
Units Dollar Software Total Sales January……..130 $390000 $160000 $550000 February……120 $360000 140000 500000 March……… 110 $330000 150000 480000 April……….. 90 $270000 130000 400000 May……….. 100 $300000 125000 425000 June……….. 125 $375000 225000 600000 Cash sales account for 25% of TabComp’s total sales, 30% of the total sales are paid by bank credit card, and the remaining 45% are on open account (TabComp’s own charge accounts). The cash and bank credit card sale payments are received in the month of the sale. Bank credit card sales are subject to a 4% discount which is deducted immediately. The cash receipts for sales on open account are 70% in the month following the sale, 28% in the second month following the sale, and the remaining are uncollectible. TabComp’s month end inventory requirements for computer hardware units are 30% of the next month’s sales. The units must be ordered two months in advance due to long lead times quoted by the manufacturer. Required:
1.Calculate the cash that TabComp can expect to collect during April. Show all of your calculations.
2.Tabcomp is determining how many MZB 33 computer hardware units to order on 25 January 2011
a)Determine the number of computer hardware units that should be ordered in January. Show all of your
b)calculate the dollar amounts of the order that Tabcomp will place for these computer hardware units
3.As part of the annual budgets process, tabcomp prepares a cash budgets by months for the entire year. Explain why a company such as tabcomp prepares a cash begets by month for the year
Monroe ltd manufactures lamps. It has set up the following standards per finished unit for direct materials and direct manufacturing labour
Direct materials 10kg at $450 per kg $45
Direct manufacturing labour 0.75hour at 30 per hour 22.50
The number of finished units budgeted for January was 10000,9550 units were actually produced
Actual results in January were
Direct materials: 98055kg used
Direct manufacturing labour 7300 204400
Question three
Assume that there was no beginning inventory of either direct materials or finished units. During the month materials purchases amounted to 100000 kg at a total cost of 465000. Price variance are isolated upon purchase. Efficiency variances are isolated at time of usage.
a) Compute the January price and efficiency variances of direct material and direct labour
b) Prepare journal entries to record variances in requirement ( a)
c) Why might Monroe ltd calculate direct materials price variance and direct materials effiecency variances with reference to different points in time
Hershey Foods Corporation, located in Hershey, Pennsylvania, is the leading North American manufacturer of chocolate—for example, Hershey’s Kisses, Reese’s Peanut Butter Cups, Kit Kat, and Take 5 bars. Imagine that you are considering the purchase of shares of Hershey’s common stock.
Instructions
Answer these questions related to your decision whether to invest.
(a) What financial statements should you request from the company?
(b) What should these financial statements tell you?
(c) Should you request audited financial statements? Explain.
(d) Appendix B at the end of this book contains financial statements for Hershey Foods. What comparisons can you make between Tootsie Roll and Hershey in terms of their respective results from operations and financial position?
CSU Corporation began operations on January 1, 2010. The following information is available for CSU Corporation on December 31, 2010: Service revenue $17,000
Accounts receivable
1,800
Common stock
10,000
Supplies
4,000
Accounts payable
2,000
Retained earnings
?
Supplies expense
200
Building rental expense
9,000
Equipment
16,000
Cash
1,400
Notes payable
5,000
Insurance expense
1,000
Dividends
600
Prepare an income statement, a retained earnings statement, and a balance sheet using this information.
CSU Corporation began operations on January 1, 2010. The following information is available for CSU Corporation on December 31, 2010: Service revenue $17,000
Accounts receivable
1,800
Common stock
10,000
Supplies
4,000
Accounts payable
2,000
Retained earnings
?
Supplies expense
200
Building rental expense
9,000
Equipment
16,000
Cash
1,400
Notes payable
5,000
Insurance expense
1,000
Dividends
600
Prepare an income statement, a retained earnings statement, and a balance sheet using this information.
Hershey Foods Corporation, located in Hershey, Pennsylvania, is the leading North American manufacturer of chocolate—for example, Hershey’s Kisses, Reese’s Peanut Butter Cups, Kit Kat, and Take 5 bars. Imagine that you are considering the purchase of shares of Hershey’s common stock. Instructions Answer these questions related to your decision whether to invest. (a) What financial statements should you request from the company? (b) What should these financial statements tell you? (c) Should you request audited financial statements? Explain. (d) Appendix B at the end of this book contains financial statements for Hershey Foods. What comparisons can you make between Tootsie Roll and Hershey in terms of their respective results from operations and financial position?
Jeff Andringa, a former college hockey player, quit his job and started Ice Camp, a hockey camp for kids ages 8 to 18. Eventually he would like to open hockey camps nationwide. Jeff has asked you to help him prepare financial statements at the end of his first year of operations. He relates the following facts about his business activities. In order to get the business off the ground, he decided to incorporate. He sold shares of common stock to a few close friends, as well as buying some of the shares himself. He initially raised $25,000 through the sale of these shares. In addition, the company took out a $10,000 loan at a local bank. Ice Camp purchased, for $12,000 cash, a bus for transporting kids. The company also bought hockey goals and other miscellaneous equipment with $1,500 cash. The company earned camp tuition during the year of $100,000 but had collected only $80,000 of this amount. Thus, at the end of the year its customers still owed $20,000. The company rents time at a local rink for $50 per hour. Total rink rental costs during the year were $8,000, insurance was $10,000, salary expense was $20,000, and administrative expenses totaled $9,000, all of which were paid in cash. The company incurred $800 in interest expense on the bank loan, which it still owed at the end of the year. The company paid dividends during the year of $5,000 cash. The balance in the corporate bank account at December 31, 2010, was $49,500.
Instructions
Using the format of the Sierra Corporation statements in this chapter, prepare an income statement, retained earnings statement, balance sheet, and statement of cash flows.
All businesses are involved in three types of activities—financing, investing, and operating. Listed below are the names and descriptions of companies in several different industries.
Abitibi Consolidated Inc.—manufacturer and marketer of newsprint
Cal State–Northridge Stdt Union—university student union
Oracle Corporation—computer software developer and retailer
Sportsco Investments—owner of the Vancouver Canucks hockey club
Grant Thornton LLP—professional accounting and business advisory firm
Southwest Airlines—discount airline
Instructions
(a) For each of the above companies, provide examples of (1) a financing activity, (2) an investing activity, and (3) an operating activity that the company likely engages in.
(b) Which of the activities that you identified in (a) are common to most businesses? Which activities are not?
Notes Receivable Discounted On January 1, 2007 Boiler Company received two notes for merchandise sold:
Note 1: A $10,000, 10%, 60 day note from Wildcat, Inc.
Note 2: A $20,000, 8%, three year interest bearing note from Gopher, Inc.
On January 1, 2007 the fair rate of interest was 10%. Needing cash to meet the upcoming payroll, Boiler Company discounted the Wildcat, Inc. note at the local bank at 14% on January 12, 2007. On March 2, 2007 Wildcat, Inc. remitted the full amount owed to the bank.
Required
Prepare journal entries on the books of Boiler Company to record the receipt of the two notes on January 1, 2007, the discounting of the Wildcat note on January 12, 2007, the payment by Wildcat to the bank on March 2, 2007, and the interest on the Gopher note on December 31, 2007. Round all calculations to the nearest dollar and use a 360 day year.
Notes Receivable and Income On January 1, 2007 the Pitt Company sold a patent to Chatham, Inc., which had a carrying value on Pitt’s books of $10,000. Chatham gave Pitt a $60,000 non interest bearing note payable in five equal annual installments of $12,000, with the first payment due and paid on January 1, 2008. There was no established price for the patent, and the note has no ready market value. The prevailing rate of interest for a note of this type at January 1, 2007 is 12%. Information on present value and future amount factors is as follows:
Period
1
2
3
4
5
Present value of $1 at 12%
0.89
0.8
0.71
0.64
0.57
Present value of an annuity of $1 at 12%
0.89
1.69
2.4
3.04
3.6
Future amount of $1 at 12%
1.12
1.25
1.4
1.57
1.76
Future amount of an annuity of $1 at 12%
1
2.12
3.37
4.78
6.35
Required
Prepare a schedule showing the income or loss before income taxes (rounded to the nearest dollar) that Pitt should record for the years ended December 31, 2007 and 2008 as a result of the preceding facts. Show supporting computations in good form.
On March 1, ABC purchased a one year liability insurance policy for $36,000.
Upon purchase, the following journal entry was made:
Dr Prepaid insurance 36,000
Cr Cash 36,000
The expired portion of insurance must be recorded as of 12/31/12.
Notice that the expired portion from March through November has been recorded already.
Make sure that the Prepaid Insurance balance after the adjusting entry is correct.
Depreciation expense must be recorded for the month of December.
The building was purchased on February 1, 2012 for $36,000 with a remaining useful life of 30 years and a salvage value of $5,400.
The method of depreciation for the building is straight line.
The equipment was purchased on February 1, 2012 for $12,000 with a remaining useful life of 5 years and a salvage value of $500.
The method of depreciation for the equipment is double declining balance.
Depreciation has been recorded for the building and equipment for months February through November.
On December 1, XYZ Co. agreed to rent space in ABC’s building for $5,000 per month,
and XYZ paid ABC on December 1 in advance for the first three months’ rent.
The entry made on December 1 was as follows:
Dr Cash 15,000
Cr Unearned rent revenue 15,000
The unearned revenue account must be adjusted to reflect the amount earned as of 12/31/12.
Per timecards, from the last payroll date through December 31, 2012, ABC’s employees have worked a total of 250 hours.
Including payroll taxes, ABC’s wage expense averages about $25 per hour. The next payroll date is January 5, 2013.
The liability for wages payable must be recorded as of 12/31/12.
On November 30, 2012, ABC borrowed $15,000 from American National Bank by issuing an interest bearing note payable.
This loan is to be repaid in three months (on February 28, 2013), along with interest computed at an annual rate of 6%.
The entry made on November 30 to record the borrowing was:
Dr Cash 15,000
Cr Notes payable 15,000
On February 28, 2013 ABC must pay the bank the amount borrowed plus interest.
Assume the beginning balance for Notes Payable is correct.
Interest through 12/31/12 must be accrued on the$15,000 note.
ABC uses a periodic inventory system, and the ending inventory for each year is determined by taking a complete
physical inventory at year end. A physical count was taken on December 31, 2012, and the inventory on hand at
that time totaled $65,000.
Record the 2012 Cost of Goods Sold and the 12/31/12 Inventory adjustment. (This includes closing Purchases.)
It would be unusual for a company to have an asset impairment in Year 1, but for the sake of this example, ABC realized
that their intangible asset might be impaired on December 31, 2012. Record the impairment if any.
The expected future net cash flows for this intangible asset totals $22,500, and the fair value of the asset is $25,000.
On 7/1/12, ABC purchased 5,000 shares of its own stock from existing stockholders as treasury stock. The cost of the treasury
stock was $5 per share, or $25,000 in total. The effects of this transaction are already shown in the unadjusted trial balance. On 12/31/12,
ABC reissued these 5,000 shares of treasury stock at $6 per share. Record the journal entry required for the reissuance of the treasury stock.
On 12/31/12, ABC issued 4,500 shares of $1 par value common stock at the closing market price of $6 per share. Prepare ABC’s journal entry
to reflect the issuance of the stock on 12/31/12.
On 7/1/12, ABC sold 10% bonds having a maturity value of $500,000 for $463,197, resulting in an effective yield of 12%. The bonds are
dated 7/1/12, and mature 7/1/17. Interest is payable semiannually on July 1 and January 1. ABC uses the effective interest method of
amortization for bond premium or discount. Record the adjusting entry for the accrual of interest and the related amortization on 12/31/12.
Hint: Develop an abbreviated amortization schedule to accurately determine the interest expense.
The following information is available for ABC Corporation at 12/31/12 regarding its investments in stocks of other companies.
Securities Cost Fair Value
2,000 shares of Ford Corporation Common Stock $40,000 $45,000
1,000 shares of G.M. Corporation Preferred Stock $25,000 $22,500
$65,000 $67,500
Prepare the adjusting entry (if any) for 2012, assuming the securities are classified as trading.
On 1/1/12, ABC Corporation purchased, as a held to maturity investment, $80,000 of the 9%, 5 year bonds of Intuit Corporation for $74,086,
which provides an 11% return. Prepare ABC’s 12/31/12 journal entry to reflect the receipt of annual interest and discount amortization.
Assume the bond investment pays interest annually on 12/31 each year and that effective interest amortization is used.
ABC Corporation prepares an aging schedule on 12/31/12 that estimates total uncollectible accounts at $18,500. Assuming that the allowance method is used,
prepare the entry to record bad debt expense.
Do this step after preparing the Income Statement except for the Income taxes line:
Corporate taxes are due in four estimated quarterly payments on April 15, June 15, September 15, and December 15.
However, for the purposes of this ABC illustration, we will assume that estimates are not paid, and that the tax is paid in full
on the return’s March 15, 2013 due date.
ABC’s income tax rate is 40%. The entire year’s income tax expense was estimated at the beginning of 2012 to be $72,000,
so January through November income tax expense recognized amounts to $66,000 (11/12 months).
Since we are assuming estimates are not made during the year, the balance in Income taxes payable represents
tax accrued for January through November. Assume no deferred tax assets or deferred tax liabilities.
Based on the income before income taxes figure from the income statement, record December’s income tax expense
For those questions which you need to solve for an answer and the number is not a whole number, round to the nearest hundredth. So if your answer is 15,402.173. The answer should be entered as 15,402.17. If the answer is 15,401.645, then the answer should be entered as 15,401.65.
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Question 1 (1 point) A typical use of managerial accounting is to: Question 1 options: ?help investors and creditors assess the financial position of the company.???help management get a clean audit report???help the marketing manager decide which product promotion to implement???help the SEC decide whether management is in compliance of its policies.??Save Question 2 (1 point) Three costs incurred by Pitt Company are summarized below: 1,000 units 2,000 units Cost A $10,000 $15,000 Cost B $21,000 $21,000 Cost C $16,000 $32,000 Which of these costs are variable? Question 2 options: ?A, B, and C???A and B???A only???C only??Save Question 3 (1 point) Bubba’s Steakhouse has budgeted the following costs for a month in which 1,600 steak dinners will be produced and sold: Materials, $4,080; hourly labor (variable), $5,200; rent (fixed), $1,540; depreciation, $790; and other fixed costs, $400. Each steak dinner sells for $12.30 each. How much would Shula’s profit increase if 10 more dinners were sold? Your Answer: Question 3 options: ??Answer??Save Question 4 (1 point) Bellfont Company produces door stoppers. August production costs are below: Door Stoppers produced 76,000 Direct material (variable) $20,000 Direct labor (variable) 40,000 Supplies (variable) 20,000 Supervision (fixed) 26,100 Depreciation (fixed) 24,000 Other (fixed) 4,100 In September, Bellfont expects to produce 100,000 door stoppers. Assuming no structural changes, what is Bellfont’s…
Sas assignment and analyse data and follow requirements………..
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Assessment Item No. 2 Assessment name: Business Report Description: Forensic Accounting Investigative Report This project involves using SAS Enterprise Guide to critically evaluate data sources and to make recommendations to management. Length: 1,500 words Financial Forensics and Business Intelligence SEMESTER ONE 2012 PROJECT 2: FORENSIC INVESTIGATION – VOLKSWAGEN PARTS & PURCHASING Assessing SAS Enterprise Guide [skills and analysis] (Weighting Total – 35%) Due: 10 May, 2014 at 11.59PM Submission: Electronic assignment submission via Blackboard under Assessment. Type: Individual (see details below) Length: Part A Volkswagen Investigation Expert Report: 1500 (+/ 10%) words maximum for the Case Report (excluding executive summary and table of contents). In addition students will also need to submit output files from SAS systems. PART B Volkswagen Investigation PowerPoint Presentation: 10 15 PowerPoint slides with optional recording Students must keep a backup copy of all documents and programs used in this assignment submission until they have received a finalised mark for this piece of assessment. Learning Purpose of the Project This project is designed to reflect a real workplace activity in forensic analysis/business intelligence. Your ability to manipulate and massage data using SAS Enterprise Guide, to give meaning to it through critical analysis of the SAS results, and to produce reports and a PowerPoint presentation to company executives will be assessed. You will be provided with one case and relevant Excel files to support the case from which you must complete all of the assignment tasks described in this document, that is: Parts A and B. Specifically this assignment relates to these learning outcomes: KS 1.1 & 1.2 Discipline knowledge and skills Demonstrate your ability to understand the issues associated with data quality by reflecting on how you overcame data problems, demonstrate your ability to relate the information you…
Yuli Copters is in the business of designing and manufacturing helicopters for commercial, military and pleasure use. They are considering a $200 million upgrade to their production line for the Yuli Flyer—a remote fly drone helicopter with a payload of 300 pounds. The potential cash flow is estimated at net revenues of $160 million per year for four years. Recently, they were advised of potential patent infringement and to eliminate this problem they are considering buying a license. SohnCo will sell a license is good for four years of exclusive use of the patent and associated intellectual property. Yuli Copters uses a corporate MARR of 12% and their risk free alternatives are 6%. The VP of Engineering at Yuli Copters estimates market volatility in demand is 35%. The VP of Marketing estimates market volatility in demand at 25%. Since the VP’s trust you, they asked you to figure out the most they should pay for a license from SohnCo. Yuli Copters is known to be aggressive in ignoring intellectual property claims. Imagine they just go ahead with the project as stated above. (In other words, they decide not to pay for the license.) Sometime in year 3 of 7, a court decision requires them to reimburse SohnCo $25 million. They pay at the end of year 4. How does this strategy work for them? Are they better off licensing or being aggressive?
Name ___________________________________ Date ___________________
The Final Examination consists of three problems. Please, type or neatly write concise and well organized answers. The exam must be submitted in hard copy on Thursday, May 1, 2014.
Problem 1 (40 points)
Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) have adopted the asset and liability view as the basis for their conceptual framework and approach to standard setting.
Required:
Contrast the asset liability view with the revenue expense view and explain the Boards’ decision to grant conceptual primacy to the definitions of assets and liabilities.
Problem 2 (40 points)
The Kissel Company (Kissel) acquires a machine in a business combination. The machine will be held and used in its operations. The machine was originally purchased by the acquired entity from an outside vendor and, before the business combination, was customised by the acquired entity for use in its operations. However, the customization of the machine was not extensive. Quoted prices for similar machines adjusted for differences as customized and very similar machines range from $40,000 to $48,000 with most of the quotes being toward the higher end of this range. These amounts reflect the price that would be received for the machine in its current condition (used) and location (installed and configured for use).
The machine does not have a separately identifiable income stream from which to develop reliable estimates of future cash flows. Furthermore, information about short term and intermediate term lease rates for similar used machinery that otherwise could be used to project an income stream (i.e., lease payments over remaining service lives) is not available.
Kissel’s management estimates that the amount that would be required to currently construct a substitute (customized) machine of comparable utility would be in the range of $40,000 to $52,000. The estimate takes into account the condition of the machine and the environment in which it operates, including physical wear and tear (i.e., physical deterioration), improvements in technology (i.e., functional obsolescence), conditions external to the condition of the machine such as a decline in the market demand for similar machines (i.e., economic obsolescence) and installation costs.
Kissel’s management determines that the asset would provide maximum value to market participants through its use in combination with other assets or with other assets and liabilities (as installed or otherwise configured for use). There is no evidence to suggest that there is an alternative use for the machine. Therefore, the highest and best use of the machine is its current use.
Required:
Describe valuation techniques (approaches) available under ASC 820? (12 points)
Apply individual valuation techniques to determine fair value range for the machinery. (15 points)
What would be the fair value of the machinery using multiple valuation techniques? Support your judgment. (13 points)
Problem 3 (20 points)
Your client took accounting courses a number of years ago and was unaware of recent changes to comprehensive income reporting.
Required:
Access the FASB Codification to conduct research using the Codification Research System to prepare responses to the following items. Use various tools, such as Master Glossary and Cross Reference function, to answer the questions below. Provide full Codification references for your responses.
What authoritative literature addresses comprehensive income? What is the predecessor standard for the topic you selected? (5 points)
Provide the definition of comprehensive income. (5 points)
How the comprehensive income should be reported? Provide details about each allowed format (5 points)
Define classification within other comprehensive income; provide a list of items required to be reported as other comprehensive income. (5 points)
Farman Appliance Mart began operations on May 1. It uses a perpetual inventory system. During May, the company had the following purchases and sales for its Model 25 Sureshot camera. Purchases Date Units Unit Cost Sales Units May 1 203 $141 May 4 116 May 8 232 $161 May 12 145 May 15 174 $176 May 20 87 May 25 116 (a1) Calculate the average cost per unit at May 1, 4, 8, 12, 15, 20 & 25. (Round answers to 3 decimal places, e.g. $105.252.) Average cost for each unit May 1 $141 May 4 $141 May 8 $155.545 May 12 $155.545 May 15 $165.
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Farman Appliance Mart began operations on May 1. It uses a perpetual inventory system. During May, the company had the following purchases and sales for its Model 25 Sureshot camera. ??Purchases????Date??Units??Unit Cost??Sales Units??May 1??203??$141????May 4??????116??May 8??232??$161????May 12??????145??May 15??174??$176????May 20??????87??May 25??????116?? ?HYPERLINK “javascript:void(0)”? (a1)? Calculate the average cost per unit at May 1, 4, 8, 12, 15, 20 & 25. (Round answers to 3 decimal places, e.g. $105.252.) ??Average cost for each unit??May 1??$141 ?? ????May 4??$141 ?? ????May 8??$155.545 ?? ????May 12??$155.545 ?? ????May 15??$165.773 ?? ????May 20??$165.773 ?? ????May 25??$165.773 ?????? (A2) Determine the ending inventory under a perpetual inventory system using (1) FIFO, (2) moving average cost, and (3) LIFO. (Round answers to 0 decimal places, e.g. $2,150.) the ending inventory under a perpetual inventory system FIFO MOVING AVERAGE LIFO $ $ $
Please, would you like to answered question below within the perspective of the theories, and providing any discussion of the theory
Case Study Question 1 (20 marks) (500 words)
Read headline “Health rates as top social issue”. Would you expect management to worry about attitudinal surveys, such as the one described in Headline below. Explain you answer, as well explaining how such surveys might impact on the disclosure policies of an organisation.
CANBERRA: Health has taken over from crime as the most important social issue seen to be facing Australia, figures showed yesterday.
The survey of people’s views of environmental issues found the environment rated fifth in importance even though three in four Australians had at least one environment concern.
The Australian Bureau of Statistics (ABS) figures showed 29% of respondents believed health was the most important social issue.
This was followed by crime (24%) education and unemployment (both 16%) and environmental problems (16 %).
In 1996, crime was seen as the most important social issue, followed by health, education, unemployment, the environment.
In the latest survey, dated March 1998, health was the most important issue to older people and least important to people aged 35 44.
In general, younger people were more concerned about long term environmental problems although 19 24 year olds, as well as 45 54 year olds were most concerned about unemployment.
But the survey said 71% of Australians were concerned with at least one specific environmental problem.
The figure was up from 68% in 1996 but down from 75% in 1992.
People living in ACT were most concerned while Tasmanians were the least concerned about environmental problems.
Air pollution continued to be the problem of greatest worry for Australians, with 32% reporting it as their major concern.
The Chronicle,
Case Study Question 2 (20 marks) 500 words
Read headline “Think before you spend”and then, drawing on material covered in this subject, Accounting Theory, identify some ways in which you think corporations would respond to such allegations.
Here are some of the products “The Rough Guide to Ethical Shopping” believes we should think about before buying:
Beverages: Maxwell House. One of the thousands of familiar brands Bird’s, Jacobs, Ritz and Toblerone are others owned by tobacco giant Philip Morris of Marlboro cigarette fame, which recently changed its name to Altria.
It denies to this day that smoking is addictive, was fined for failing to disclose political donations and was one of George Bush’s largest corporate campaign contributors.
Clothing: Nike trainers. Nike is said to have petitioned the Indonesia government for exemption from the minimum wage and has been accused of lying about labour conditions at its contractor factories.
According to Sweatshop Watch, an average Nike worker would need to put in 72,000 years of work to receive what Tiger Woods gets for one five year contract to publicise the brand.
Food: Tiger prawns. Hugely popular nowadays in restaurants and supermarkets, tiger prawns are mostly raised in man made pools in Bangladesh and the Philippines.
It takes 50,000 litres of water to produce a kilogram of prawn meat and the chemical additives to promote rapid growth ends up polluting the surrounding farming land.
People are routinely displaced to make way for these farms. Rape and murder have been reported in some cases.
Sport: Snooker cues. Thousands of snooker cues are made every year using wood from the Indonesian ramin tree. The ramin, which is also used for furniture and window blinds, is a rare and endangered tree listed under the Convention on International Trade in Endangered Species, but continues to be logged illegally at an alarming rate.
(Irish Independent, 1 December 2004, Independent Newspapers Ireland Ltd)
CASE STUDY QUESTION 3 (20 MARKS) 500 words
Read headline “Lay off Big Macs, radio boss tells staff” and using Legitimacy Theory as the basis of your argument, explain why a company such as McDonald’s would not want a radio station to make adverse comments about it. If the station does make adverse statements, how might McDonald’s react from a corporate disclosure perspective?
Top management at radio 2UE ordered the station’s broadcaster not to make derogatory comments about McDonald’s on air or the station would lose its $170,000 advertising account with the fast food chain, according to a leaked in internal memo.
The memo from program director John Brennan in February reveals for the first time that the practice of tailoring editorial comment to suit 2UE’s advertisers in an internal part of the top rating radio station’s culture.
‘It’s going to be a tough year for revenue and we need all the help we can get from everyone concerned’ the management memo says.
‘It is obviously imperative that no derogatory comments about McDonald’s are made be any broadcaster on the station. Any such comment would see an immediate cancellation of the contract’
The memo will be investigated by the Australian Authority’s inquiry into the radio station next month.
Mr Brennan’s directive appears to contravene the Commercial Radio Code of Practice, under which a radio must promote accuracy and fairness in news and current affairs programs. The code may be reviewed by the ABA in separate public hearings and may result in moves away from self regulation.
The memo contradicts statements by 2UE chief John Conde this week about the role of station management in the scandal involving John Laws and the now defunct $1.2 million deal with Australian Bankers’ Association.
The banks’ deal with Laws also involved refraining from negative comments about the client on air.
McDonald’s spokesman John Blyth said the company was unaware the 2UE directive had issued and would never make its advertising contracts conditional on editorial comment.
The memo was addressed to Alan Jones, John Laws, John Stanley, Mike Carlton, Peter Bosly, Ray Hadly, Stan Zemanek and eight other on air presenters.
Senior management was also party to the directive.
In a letter to the Australian yesterday, Mr Conde confirmed Mr Brennan wrote the memo, which had ‘reflected (his) exuberance’. He said Mr Brennan had promptly clarified the memo, telling staff he only intended to avoid any announcer ‘sending up’ the McDonald’s ads. ‘It was made plain 2UE was not seeking to curtail editorial comment’
In a separate statement, Mr Conde said 2UE and its affiliates were to receive $707,000 from the
1 During March, Tile Company purchases and uses 6,600 pounds of materials costing $26,730 to make 3,000 tiles. Tile Company’s standards material cost per tile is $8 (2 pounds of material X $4.00) .Instruction compute price, and quantity materials variances for the Tile Company for March. Indicate amount ($) and favorable (F) or unfavorable (U) effects. Price variance
Quantity variance .
2 During January, Ray Company incurs 1,850 hours of direct labor at an hourly cost of $9.60 in producing 1,000 units of its finished products. Ray’s standard labor cost per units of output is $18(2 hours X $9.00) Instructions compute the price, and quantity labor variances for Ray Company for January. Indicate amounts ($) and favorable (F) or unfavorable (U) effect.
Price variance Quantity variance
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1 During March, Tile Company purchases and uses 6,600 pounds of materials costing $26,730 to make 3,000 tiles. Tile Company’s standards material cost per tile is $8 (2 pounds of material X $4.00) .Instruction compute price, and quantity materials variances for the Tile Company for March. Indicate amount ($) and favorable (F) or unfavorable (U) effects. Price variance Quantity variance . 2 During January, Ray Company incurs 1,850 hours of direct labor at an hourly cost of $9.60 in producing 1,000 units of its finished products. Ray’s standard labor cost per units of output is $18(2 hours X $9.00) Instructions compute the price, and quantity labor variances for Ray Company for January. Indicate amounts ($) and favorable (F) or unfavorable (U) effect. Price variance Quantity variance
Earl Smith is a financial controller with Practical Solutions Pty Ltd, an entity that sells software products to accounting firms and small businesses. At present, Mr Smith is analysing a number of software packages that focus on job costing. He needs to pick one package that he can recommend to his clients. Each software vendor is keen to have their software selected as it will result in a significant increase in sales for their company.
Anita Loo is a salesperson for the software company Dogto Ltd. She has told Mr Smith that he should go to Los Angeles to analyse her company’s software package properly, because the programming experts there could give him a thorough demonstration. Ms Loo has also suggested that he take his family, so that he feels relaxed in a foreign country and is in the right frame of mind to undertake his analysis. She also suggests that Disneyland is worth visiting while Mr Smith is over there. Dogto Ltd would pick up the expenses for the trip. Questions… a. Outline any ethical issues involved in Mr Smith taking the trip. Relate any ethical issues directly to the facts of the business case.
b.Outline any benefits to Practical Solutions Pty Ltd of Mr Smith taking the trip.
c. How might Practical Solutions Pty Ltd be able to visit Dogto Ltd in Los Angeles without the appearance of favouring Dogto Ltd?
d.What would be the advantages and disadvantages to Practical Solutions Pty Ltd of having a code of conduct?
e. List the principles you would include in a ‘Code of Conduct’ for Practical Solutions (PS) Pty Ltd and give a brief description of each. To assist you in determining this, you may like to examine the ‘Code of Conduct’ of: the company assigned to the group you were in during Weeks 1 to 4 of session; a government agency; and a university such as ours (UWS) or the University of Newcastle. Remember, PS Pty Ltd is a small to medium enterprise (SME).
Reference List:
Includes any references you have used and cited in your report. You must use the Harvard referencing system as per the guide available from the UWS library website. (Note: the reference list is not included in the word count).
Resources list to assist you
1. The ‘Individual Assignment Marking Guide’on pages 6 and 7 below. It is imperative you follow this marking guide in order to have the opportunity to optimise the marks you may receive for this assignment. The marking guide shows what the marker will be looking for and what mark you will get if you reach certain levels of attainment. Print off a copy and use this to help you in your preparation.
2. Chapter 2 Business Sustainabilityof the textbook. Birt, J 2012, ‘Business sustainability’, in Accounting: business reporting for decision making, John Wiley and Sons Australia, Milton, Qld, pp. 38 72.
3. Websites of the professional accounting bodies, such as, CPA Australia, and The ICAA Australia. These links are available through the accounting subject page of the UWS Library website (see internet link tab on said page).
4. The library resources link on vUWS and academic articles accessed via the library database. From library website >> e Resources >> (scroll down to) Accounting >> select either ABI/INFORM or ACCOUNT. You can search using suitable keywords.
5. The library website at http://library.uws.edu.au/files/cite_harvard.pdf. This will ensure you use the correct referencing approach.
Question 1 15% of total assessment You have recently been appointed as an audit senior and have been assigned to the audit of TNO Limited (TNO) a listed public company. It is the beginning of January 2014 and you are gathering information in order to prepare the audit plan for the year ended 31 December 2013. The firm for which you work has been the auditor of TNO for a number of years. The following information has been gathered to date. The principal activities of TNO are: research and development of technologies relating to medical equipment; manufacture and distribution of medical equipment; investment of surplus funds; and investment in the property market. TNO was incorporated in 1990 and has operated successfully and profitably since that date. In the last few years it has branched out into the property market, acquiring a number of commercial properties which are let mainly to medical practitioners. The directors of TNO are: Mr. John Stanton, Chairman Ms Jane Quade, Chief Executive Officer Mr. Joe Quade Dr Jim Xie Dr Jenny Yeo Doctors X and Y are independent non executive directors and have been directors since 2001. The other three executive directors have been employed by the company since its incorporation and have considerable experience in the industry. Mr Stanton controls a number of private companies. In prior years, the audit firm placed reliance on internal controls based on satisfactory results of extensive tests of control. Recent discussions with the client have revealed no changes in the system of internal control since last year. The company does not have an internal audit function. In February 2013, research activities relating to a new laser surgery device commenced. Significant costs were incurred in relation to this research. In April 2013 a competitor announced that it had successfully developed and patented a similar device. In order to finance the research activities noted above the company borrowed from its bankers an additional $5 million during the year. The loan agreement contains a covenant to the effect that should the company’s debt to equity ratio (measured as total liabilities: shareholders’ equity) increase above 1.2:1.0 at any time, the bankers have the right to demand immediate repayment. ACC331 201430 Assessment 3 February 2014 Page | 2 Throughout 2013, the property market has been in decline. The interim audit is scheduled to take place in September 2013 for approximately two weeks. The final audit is scheduled to start on 1 February 2014 and should take about two weeks to complete. The client completed a stock count on 31 December 2013. The directors require the signed audited final financial report by 25 February 2014. Your audit partner, John Richards, has approached you and advised that there are several account areas he is concerned about. Before you complete your audit program he wants you to report back to him about the following accounts: Accounts receivable. Current investments. Property assets. Intangible assets. Deferred development expenditure. An unaudited set of financial reports at 31 December 2013 together with audited comparatives for the year ended 31 December 2012 and 2011 is set out below for your review. TNO LIMITED Income Statement for the year ended for the year ended 31 December Notes 2013 2012 2011 $’000 $’000 $’000 Sales Revenue 20,888 25,278 27,814 Cost of sales (14,254) (17,695) (20,877) Gross Profit 6,634 7,583 6,937 Other revenue 2 1,593 1,835 2,010 Operating expenses 3 (3,658) (2,254) (2,381) Finance costs 4 (2,400) (2,040) (1,600) Profit before tax 2,169 5,124 4,966 Tax expense (648) (1,537) (1,489) Net Profit 1,521 3,587 3,477 TNO LIMITED Statement of comprehensive income for the year ended 31 December 2013 2012 2011 $’000 $’000 $’000 Net profit 1,521 3,587 3,477 Revaluation of building asset (net of tax) 350 Total comprehensive income 1,871 3,587 3,477 ACC331 201430 Assessment 3 February 2014 Page | 3 TNO LIMITED Statement of changes in equity for the year ended 31 December 2013 2012 2011 $’000 $’000 $’000 Share Capital 5,000 5,000 5,000 Asset Revaluation Reserve opening balance 5,000 5,000 5,000 Revaluation of asset 350 Asset Revaluation Reserve closing balance 5,350 5,000 5,000 Retained earnings 9,272 5,685 2,208 Profit 1,521 3,587 3,477 Retained profit closing balance 10,793 9,272 5,685 Total equity 21,143 19,272 15,685 TNO LIMITED Balance Sheet as at 31 December 2013 2012 2011 $’000 $’000 $’000 Cash 66 96 69 Trade and other receivables 5 4,980 4,200 3,800 Investments 6 1,500 2,300 2,100 Inventories 7 6,607 6,400 6,000 Other 100 120 130 Total Current assets 13253 13116 12099 Investments 8 15,000 14,500 10,000 Property plant & equipment 9 6,400 7,000 7,600 Intangibles 10 4,000 4,000 2,000 Other 11 6000 300 300 Total non current assets 31,400 25,800 19,900 Total assets 44,653 38,916 31,999 Trades & other payables 12 7,050 8,000 6,800 Provisions 13 300 500 510 Total current liabilities 7,350 8,500 7,310 non current liabilities Bank Loans 14 15,000 10,000 8,000 Provisions 15 1,160 1,144 1,004 Total non current liabilities 16,160 11,144 9,004 Total liabilities 23,510 19,644 16,314 Net assets 21,143 19,272 15,685 Equity Share capital 5,000 5,000 5,000 Reserve 16 5,350 5,000 5,000 Retained earnings 10,793 9,272 5,685 Total equity 21,143 19,272 15,685 ACC331 201430 Assessment 3 February 2014 Page | 4 Significant Account Policies The accounting policy note states that the company complies with Accounting Standards and the Corporations Act 2001. It also reveals the following: commercial properties owned but not occupied by the company and which generate rental income are classified as non current investments. These assets are not depreciated. Some of the investment properties are stated at cost and some are at directors’ valuation technologies relating to modified equipment are included in the accounts as intangible assets. These assets stated at directors’ valuation and are not amortised. The Director’s believe that these assets do not have a limited useful life. deferred development expenditure is included in the accounts under ‘other’ non current assets. This expenditure relates to the new laser surgery device. 2013 2012 2011 NOTE 2 Other revenue from continuing operations $’000 $’000 $’000 Rental revenue 1,500 1,740 1,913 Dividends 93 95 97 1,593 1,835 2,010 NOTE 3 Operating Expenses Impairment expenses 800 Other operating expenses 2,858 2,254 2,381 3,658 2,254 2,381 NOTE 4 Finance costs Interest expense 2,400 2,040 1,600 NOTE 5 Trade receivables (Current) Trade receivables 5,108 4,400 4,000 Allowance for doubtful debts 128 200 200 4,980 4,200 3,800 NOTE 6 Investments (Current) Shares listed (at cost) 2,300 2,300 2,100 Provision for impairment (800) 1,500 2,300 2,100 NOTE 7 Inventories (Current) Raw materials at cost 2,107 2,000 1,850 Work in progress (at cost) 400 400 400 Finished goods (at net realisable value) 4,100 4,000 3,750 6,607 6,400 6,000 NOTE 8 Investments (Non Current) Investment properties at cost 2010 9,000 9,000 6,500 Investment properties at directors’ valuation 2010 5,500 5,500 3,500 Investment properties at directors’ valuation 2012 500 15,000 14,500 10,000 ACC331 201430 Assessment 3 February 2014 Page | 5 2013 2012 2011 NOTE 9 Property Plant and Equipment (Non Current) $’000 $’000 $’000 Freehold land at directors’ valuation 2010 2,000 2,000 Freehold land at directors’ valuation 2013 2,500 2,500 2,000 2,000 Buildings on freehold land at directors’ valuation 2010 2,500 2,500 2,500 Provision for depreciation (150) (100) (50) 2,350 2,400 2,450 Plant & equipment at cost 9,550 10,050 6,900 Provision for depreciation (8,000) (7,450) (3,750) 1,550 2,600 3,150 Total written down Property, Plant and Equipment 6,400 7,000 7,600 NOTE 10 Intangible assets (Non Current) Technologies directors’ valuation 2010 4,000 4,000 2,000 NOTE 11 Other Deferred development expenditure 6,000 300 300 NOTE 12 Trade and other payables Trade payables 6,550 6,000 5,300 Bank loans unsecured 500 2,000 1,500 7,050 8,000 6,800 NOTE 13 Provisions (Current) Income tax 200 300 300 Employee entitlements 100 200 210 300 500 510 NOTE 14 Borrowings (Non Current) Bank loans secured 15,000 10,000 8,000 NOTE 15 Provisions (Non Current) Deferred tax liability 260 200 40 Employee entitlements 900 944 964 1,160 1,144 1,004 NOTE 16 Reserves Asset revaluation reserve 5,350 5,000 5,000 ACC331 201430 Assessment 3 February 2014 Page | 6
REQUIRED: 1. Use Excel to undertake detailed analytical procedures covering all three years and comprising: ? a trend statement; ? a common size statement; ? a simple comparison between years on the Income Statement and Balance Sheet; and ? profitability, efficiency (activity), liquidity and solvency ratios where applicable. The results of your analytical procedures are to be included as an appendix to the report you complete for John. Note: A copy of your Excel file is to be separately lodged via EASTS. 2. Prepare a report (excluding an executive summary) for John that outlines: a. Your analysis and other information provided, to make an assessment of the risk associated with the five accounts identified by John and the reasons for that assessment. b. The key assertion common to all the identified account balances and, for each of the account balances, one substantive audit procedure that verifies the key assertion. c. Details of other business risks identified from your analytical procedures and background details.
Dr. Massy, who specializes in internal medicine, wants to analyze his sales mix to find out how the time of his physician assistant, Consuela Ortiz, can be used to generate the highest operating income. Ortiz sees patients in Dr. Massy’s office, consults with patients over the telephone, and conducts one daily weight loss support group attended by up to 50 patients. Statistics for the three services are as follows: Office Visits Phone Calls Weight Loss Support Group Maximum number of patient billings per day 20 40 50 Hours per billing .25 .10 1.0 Billing rate $50 $25 $10 Variable costs $25 $12 $5 Ortiz works seven hours a day. Required 1. Determine the best sales mix. Rank the services offered in order of their profitability. 2. Based on the ranking in I, how much time should Ortiz spend on each service in a day? (Hint: Remember to consider the maximum number of patient billings per day.) What would be the daily total contribution margin generated by Ortiz? 3. Dr. Massy believes the ranking is incorrect. He knows that the daily 60 minute meeting of the weightloss support group has 50 patients and should continue to be offered. If the new ranking for the services is (1) weight loss support group, (2) phone calls, and (3) office visits, how much time should Ortiz spend on each service in a day? What would be the total contribution margin generated by Ortiz, assuming the weight loss support group has the maximum number of patient billings? 4. Manager Insight: Which ranking would you recommend? What additional amount of total contribution margin would be generated if your recommendation is accepted?
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Sales Mix Decision Dr. Massy, who specializes in internal medicine, wants to analyze his sales mix to find out how the time of his physician assistant, Consuela Ortiz, can be used to generate the highest operating income. Ortiz sees patients in Dr. Massy’s office, consults with patients over the telephone, and conducts one daily weight loss support group attended by up to 50 patients. Statistics for the three services are as follows: Office Visits Phone Calls Weight Loss Support Group Maximum number 20 40 50 of patient billings per day Hours per billing .25 .10 1.0 Billing rate $50 $25 $10 Variable costs $25 $12 $5 Ortiz works seven hours a day. Required 1. Determine the best sales mix. Rank the services offered in order of their profitability. I, how much time should Ortiz spend on each service in a day? (Hint: 2. Based on the ranking in Remember to consider the maximum number of patient billings per day.) What would be the daily total contribution margin generated by Ortiz? 3. Dr. Massy believes the ranking is incorrect. He knows that the daily 60 minute meeting of the weight loss support group has 50 patients and should continue to be offered. If the new ranking for the services is (1) weight loss support group, (2) phone calls, and (3) office visits, how much time should Ortiz spend on each service in a day? What would be the total contribution margin generated by Ortiz, assuming the weight loss support group has the maximum number of patient billings? 4. Manager Insight: Which ranking would you recommend? What additional amount of total contribution margin would be generated if your recommendation is accepted?
Maud exchanges a rental house at the beach with an adjusted basis of $475,00 and a fair market value of $460,000 for a rental house at the mountains with a fair market value of $400,000 and cash of $60,000. What is the recognized gain or loss?
a.
$0.
b.
$50,000.
c.
$60,000.
d.
($15,000).
8.5 points
Question 2
Fran was transferred from Phoenix to Atlanta. She sold her Phoenix residence (adjusted basis of $250,000) for a realized gain of $50,000 and purchased a new residence in Atlanta for $375,000. Fran had owned and lived in the Phoenic residence for 6 years. What is Fran’s recognized gain or loss on the sale of the Phoenix residence and her basis for the residence in Atlanta?
a.
$0 recognized gain/loss; $375,000 basis.
b.
$0 recognized gain/loss; $425,000 basis.
c.
($50,000) recognized loss; $325,000 basis.
d.
($50,000) recognized loss; $375,000 basis.
Question 5
Realizing that providing for a comfortable retirement is up to them, Jim and Julie commit to make regular contributions to their IRAs, beginning this year. Consequently, they each make a $2,000 contribution to their traditional IRA. If their AGI is $35,000 on their joint return, what is the amount of their credit for certain retirement plan contributions?
a.
$800.
b.
$400.
c.
$200.
d.
None of the above.
8.5 points
Question 7
Carl sells his principal residence, which has an adjusted basis of $150,000 for $200,000. He incurs selling expenses of $20,000 and legal fees of $2,000. He had purchased another residence one month prior to the sale for $380,000. What is the recognized gain or loss and the basis of the replacement residence if the taxpayer elects to forgo the section 121 exclusion (exclusion of gain on the sale of principle residence)?
a.
$0 recognized gain/loss; basis $380,000.
b.
$0 recognized gain/loss; basis $408,000.
c.
$28,000 recognized gain; basis $352,000.
d.
$28,000 recognized gain; basis $380,000.
8.5 points
Question 9
Which of the following itemized deductions definately will be the same amount for the regular income tax and the AMT and thus result in no AMT adjustments in 2013?
a.
Real estate taxes.
b.
Medical expenses.
c.
Charitable contributions.
d.
Onlya and b.
8.5 points
Question 13
Fred and Wilma are marreid and file a joint income tax return. One their tax return, they report $44,000 of adjusted gross income ($20,000 salary earned by Fred and $24,000 salary earned by Wilma) and claim two exemptions for their dependent children. During the year, they pay the following amounts to care for their 4 year old son and 6 year old daughter while they work.
ABC Day Care Center$3,200
Blue Ridge Housekeeping Services 2,000
Mrs. Mason (Harrry’s mother) 1,000
Harry and Wilma may claim a credit for child and dependent care expenses of:
a.
$840.
b.
$1,040.
c.
$1,200.
d.
$1,240.
8.5 points
Question 14
Black Company paid wages of $360,000, of which $80,000 was qualified wages for the work opportunity tax credit under the general rules. Black Company’s deduction for wage for the year is?
a.
$280,000.
b.
$328,000.
c.
$332,000.
d.
$360,000
8.5 points
Question 15
George and Martha are married and file a joint tax return claiming their two children, ages 10 and 8 as dependents. Assuming their AGI is $119,650, George and Martha’s child tax credit is:
hi there, i got a management accounting assignment to do. can you help me with this. my question is attached with this.
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Preparation and submission requirements This assignment requires a Microsoft Word document as well as a Microsoft Excel spreadsheet solution and both of these must be submitted online using EASTS. 1. You must submit both a Word file AND an Excel file. Failure to submit both of the files by the due date constitutes non submission and late penalties will apply. 2. Your spreadsheet solutions must be cut and pasted into the Word document. This Word document is what will be marked and returned to you. Remember that in the business world the professional presentation of information is fundamental and accordingly marks will be deducted for poor presentation. An electronic version of your source spreadsheet is required to enable markers to open the file and test your efficient use of spreadsheet formula by, for example, changing values of input variables. Marks will be awarded on the basis of correctness of answers, appropriate use of spreadsheet modelling, effective worksheet design, and level of professional presentation. 3. A reference list is mandatory for this assessment item. It is important that you are aware of how to reference properly and a reference list must be provided, properly formatted using hanging indent. Please note that it is a submission requirement that you include a reference list and assignments which do not include a properly formatted reference list will incur up to a 5 mark penalty. Review the rules regarding plagiarism and if you are not sure contact your lecturer or student learning skills advisor for advice. There is no excuse for presenting the work of others as your own; this includes cutting and pasting material from the web without properly referencing the source. In this subject there has historically been large numbers of students caught either plagiarising or failing to reference properly. The CSU Library site provides an on line guide to APA style referencing. This is the referencing style adopted by the School of…
Question 1 (1 point) Maxx Inc. has provided the following data from its activity based costing system: Activity Cost Pools Total Cost Total Activity Designing products $389,400 6,490 product design hours Setting up batches $52,678 7366 batch set ups Assembling products $25,122 4,018 assembly hours The activity rate for the “designing products” activity cost pool is: Your Answer: Question 1 options: Answer Question 2 (1 point) Sasha Company allocates the estimated $183,900 of its accounting department costs to its production and sales departments since the accounting department supports the other two departments particularly with regard to payroll and accounts payable functions. The costs will be allocated based on the number of employees using the direct method. Information regarding costs and employees follows: Department Employees Accounting 4 Production 33 Sales 10 How much of the accounting department costs will be allocated to the production? Your Answer: Question 2 options: Answer Question 3 (1 point) Medusa Company allocates costs from the payroll department (S1) and the maintenance department (S2) to the molding (P1), finishing (P2), and packaging (P3) departments. Payroll department costs are allocated based on the number of employees in the department and maintenance department costs are allocated based on the number of square feet which the production department occupies within the factory. Information about the departments is presented below: Number of Number of Square Department Costs Employees Feet Occupied Payroll (S1) $148,000 2 2,000 Maintenance (S2) $220,000 8 64,000 Molding (P1) 65 100,000 Finishing (P2) 46 60,000 Packaging (P3) 23 40,000 Medusa uses the direct method to allocate costs. Round all answers to the nearest dollar. What amount of the payroll department costs will be allocated to the molding department? Your Answer: Question 3 options: Answer Question 4 (1 point) The Manassas Company has 55 obsolete keyboards that are carried in inventory at a cost of $9,600. If these keyboards are upgraded at a cost of $6,500, they could be sold for $18,400. Alternatively, the keyboards could be sold “as is” for $7,400. What is the net advantage or disadvantage of re working the keyboards? Your Answer: Question 4 options: Answer Question 5 (1 point) Ritz Company sells fine collectible statues and has implemented activity based costing. Costs in the shipping department have been divided into three cost pools. The first cost pool contains costs that are related to packaging and shipping and Rand has determined that the number of boxes shipped is an appropriate cost driver for these costs. The second cost pool is made up of costs related to the final inspection of each item before it is shipped and the cost driver for this pool is the number of individual items that are inspected and shipped. The final cost pool is used for general operations and supervision of the department and the cost driver is the number of shipments. Information about the department is summarized below: Cost Pool Total Costs Cost Driver Annual Activity Packaging and shipping $164,900 Number of boxes shipped 24,800 boxes Final inspection $199,800 Number of individual items shipped 99,100 items General operations and supervision $80,200 Number of orders 8,300 orders During the period, the Far East sales office generated 652 orders for a total of 6,190 items. These orders were shipped in 1,365 boxes. What amount of shipping department costs should be allocated to these sales? Your Answer: Question 5 options: Answer Question 6 (1 point) Baller Financial is a banking services company that offers many different types of checking accounts. The bank has recently adopted an activity based costing system to assign costs to their various types of checking accounts. The following data relate to the money market checking accounts, one of the popular checking accounts, and the ABC cost pools: Annual number of accounts = 52,000 accounts Checking account cost pools: Cost Pool Cost Cost Drivers Returned check costs $2,760,000 Number of returned checks Checking account reconciliation costs 52,000 Number of account reconciliation requests New account setup 644,000 Number of new accounts Copies of cancelled checks 388,000 Number of cancelled check copy requests Online banking web site maintenance 189,000 Per product group (type of account) Annual activity information related to cost drivers: Cost Pool All Products Money Market Checking Returned check 200,000 returned checks 18,000 Check reconciliation costs 388,000 checking account 420 New accounts 60,000 new accounts 15,000 Cancelled check copy requests 100,000 cancelled check 60,000 Web site costs 2 types of accounts 1 Calculate the overhead cost per account for the Money Market Checking. Your Answer: Question 6 options: Answer Question 7 (1 point) Sosa Company has $39 per unit in variable costs and $1,900,000 per year in fixed costs. Demand is estimated to be 138,000 units annually. What is the price if a markup of 35% on total cost is used to determine the price? Your Answer: Question 7 options: Answer Question 8 (1 point) Bob’s Company sells one product with a variable cost of $5 per unit. The company is unsure what price to charge in order to maximize profits. The price charged will also affect the demand. If fixed costs are $100,000 and the following chart represents the demand at various prices, what price should be charged in order to maximize profits? Units Sold Price 30,000 $10 40,000 $9 50,000 $8 60,000 $7 Question 8 options: $10 $9 $8 $7 Question 9 (1 point) A retailer purchased some trendy clothes that have gone out of style and must be marked down to 30% of the original selling price in order to be sold. Which of the following is a sunk cost in this situation? Question 9 options: the original selling price the anticipated profit the original purchase price the current selling price Question 10 (1 point) Carlton Products Company has analyzed the indirect costs associated with servicing its various customers in order to assess customer profitability. Results appear below: Cost Pool Annual Cost Cost Driver Annual Driver Quantity Processing electronic orders $1,000,000 Number of orders 500,000 Processing non electronic orders $2,000,000 Number of orders 400,000 Picking orders $3,000,000 Number of different products ordered 800,000 Packaging orders $1,500,000 Number of items ordered 50,000,000 Returns $2,000,000 Number of returns 50,000 If all costs were assigned to customers based on the number of items ordered, what would be the cost per item ordered? Your Answer: Question 10 options: Answer Question 11 (1 point) Costa Company has a capacity of 40,000 units per year and is currently selling 35,000 for $400 each. Barton Company has approached Costa about buying 2,000 units for only $300 each. The units would be packaged in bulk, saving Costa $20 per unit when compared to the normal packaging cost. Normally, Costa has a variable cost of $280 per unit. The annual fixed cost of $2,000,000 would be unaffected by the special order. What would be the impact on profits if Costa were to accept this special order? Question 11 options: Profits would increase $40,000. Profits would increase $60,000. Profits would decrease $200,000. Profits would increase $80,000 Question 12 (1 point) A company has $6.40 per unit in variable costs and $4.50 per unit in fixed costs at a volume of 50,000 units. If the company marks up total cost by 0.59, what price should be charged if 65,000 units are expected to be sold? Your Answer: Question 12 options: Answer Question 13 (1 point) Customer profitability analysis might result in: Question 13 options: dropping some customers that are unprofitable. lowering price or offering incentives to profitable customers. giving incentives to all customers to place orders online. All of the above. Question 14 (1 point) The Estrada Company uses cost plus pricing with a 0.35 mark up. The company is currently selling 100,000 units at $12 per unit. Each unit has a variable cost of $5.60. In addition, the company incurs $196,500 in fixed costs annually. If demand falls to 77,600 units and the company wants to continue to earn a 0.35 return, what price should the company charge? Your Answer: Question 14 options: Answer Question 15 (1 point) A new product is being designed by an engineering team at Golem Security. Several managers and employees from the cost accounting department and the marketing department are also on the team to evaluate the product and determine the cost using a target costing methodology. An analysis of similar products on the market suggests a price of $122.00 per unit. The company requires a profit of 0.28 of selling price. How much is the target cost per unit? Your Answer: Question 15 options: Answer Question 16 (1 point) A company using activity based pricing marks up the direct cost of goods by 0.22 plus charges customers for indirect costs based on the activities utilized by the customer. Indirect costs are charged as follows: $7.80 per order placed; $2.20 per separate item ordered; $29.80 per return. A customer places 6 orders with a total direct cost of $2,700, orders 293 separate items, and makes 3 returns. What will the customer be charged? Your Answer: Question 16 options: Answer Question 17 (1 point) A law firm uses activity based pricing. The company’s activity pools are as follows: Cost Pool Annual Estimated Cost Cost Driver Annual Driver Quantity Consultation 180,000 Number of consultations 100 consultations Administrative Costs 139,000 Admin labor hours 10,000 labor hours Client Service 94,000 Number of clients 120 clients The firm had two consultations with this client and required 130 administrative labor hours. What additional costs will be charged to this customer? Your Answer: Question 17 options: Answer ________________________________________
ASSIGNMENT QUESTION Impulse Pty Ltd (Impulse) is an entertainment system manufacturer that was established in 2005. Your audit firm King & Queen have been the auditor of Impulse since its formation. The audit report for the year ended 30 June 2012 was unqualified. Although Impulse had been suffering liquidity problems with a drop in both debtors’ turnover and inventory turnover, King & Queen did not consider that any additional audit work was necessary in regard to the valuation of these assets.
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ASSIGNMENT QUESTION Impulse Pty Ltd (Impulse) is an entertainment system manufacturer that was established in 2005. Your audit firm King & Queen have been the auditor of Impulse since its formation. The audit report for the year ended 30 June 2012 was unqualified. Although Impulse had been suffering liquidity problems with a drop in both debtors’ turnover and inventory turnover, King & Queen did not consider that any additional audit work was necessary in regard to the valuation of these assets. In August 2012, Impulse obtained a large loan from a finance company, Easy Finance Limited (EFL), to provide additional working capital. However, Impulse continued to experience severe trading problems and was placed in liquidation in December 2012. King & Queen has been notified by EFL’s solicitors that they are taking action against your firm based on the audit of the 30 June 2012 financial report. EFL claim that the cause of Impulse’s failure related to the inadequate provision for doubtful debts and a fall in the value of inventories on hand, and that these problems were evident at 30 June 2012, but had not been adequately dealt with in the financial report due to your negligence. They also claim that they would not have given the loan to Impulse if the 2012 financial report had been qualified. Required (a) Would King & Queen be liable to EFL? Provide specific case references to support your answer. (b) Would your answer change if EFL had written to King & Queen advising you that they intended to make a loan to Impulse and were relying on the 2012 audited financial report to assist them in making their decision? Note : case reference ; escanda (1997) and caparo (1990) case reference proximity or privity letter. around 1000 words
Using the information below and on the next two pages, prepare the following as at 30th June 2014:
PART A: Adjustment/elimination journal entries for consolidation at that date; and
PART B: Detailed calculation of non controlling interest balance and consolidation worksheet; and
PART C: Consolidated financial statements and statements of changes in equity for the group and parent.
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200109 Corporate Accounting Systems Consolidated Financial Statements with Non Controlling Interests Autumn 2014 INSTRUCTIONS The assignment is to be submitted as an individual attempt. It must be prepared using Excel spreadsheet and be entirely your own work from this semester only – i.e. do not use or copy any file, in whole or in part, from any previous semester or from any other person. Each student must individually create a new excel file for this assignment and use their student number as the file name. The assignment cover sheet and marking guide can be found as the last three pages of this document. Print these three pages and complete the appropriate details. Use the marking guide sheet to see what is expected and how your work will be marked. Significant emphasis is placed on the correctness of the journal entries so ensure you spend adequate time on these. Review your work before submission and consider how well have met the expected standards (performance levels) for the criteria identified. Your submission needs to be printed on A4 paper, single sided, and the pages must be stapled at the top left hand corner only. Do not bind your assignment, nor put it in a folder or a plastic sleeve. The first page must be the completed and signed cover sheet and the last two pages should be the marking sheet with your student ID and name shown. The marker will use the marking sheet to calculate your assignment result and provide you with feedback on the standard you achieved against each of the criteria. Assignments which do not have these completed sheets attached will not be accepted. The printed assignment is to be submitted to your tutor during the first 10 minutes of your usual tutorial class in Week 11 beginning 5th May 2014. Submissions made during the tutorial, but after the 10 minute deadline, will be penalised by the deduction of 1 mark. Assignments not submitted at the registered tutorial class will be regarded as “late”. Students will need to…
Effective Interest vs. Straight Line Discount Amortization Burr Motor Company, a manufacturer of small to medium sized electric motors, needs additional funds to market a revolutionary new motor. Burr has arranged for private placement of a $50,000, five year, 11% bond issue. Interest on these bonds is paid annually each year on August 31. The issue was dated and sold on September 1, 2006, for proceeds of $48,197.62 to yield 12%. The company reverses any year end adjusting entries.
Required
1. Prepare a bond interest expense and discount amortization schedule showing interest expense for each year, using the effective interest method.
2. Prepare journal entries to record the issuance of the bonds and the interest payments for 2007 and 2008, using (a) the effective interest method, and (b) the straight line method.
Convertible Bond Entries On July 2, 2006 the McGraw Corporation issued $500,000 of convertible bonds. Each $1,000 bond could be converted into 20 shares of the company’s $5 par value stock. On July 3, 2008, when the bonds had an unamortized discount of $7,400, and the market value of the McGraw shares was $52 per share, all the bonds were converted into common stock.
Required
1. Prepare the journal entry to record the conversion of the bonds under (a) the book value method, and (b) the market value method.
2. Compute the company’s debt to equity ratio (total liabilities divided by total stockholders’ equity, as mentioned in Chapter 6) under each alternative. Assume the company’s other liabilities are $2 million and stockholders’ equity before the conversion is $3 million.
Convertible Bonds On January 1, 2006, when its $30 par value common stock was selling for $80 per share, a corporation issued $10 million of 10% convertible debentures due in 10 years. The conversion option allowed the holder of each $1,000 bond to convert it into six shares of the corporation’s $30 par value common stock. The debentures were issued for $11 million. At the time of issuance the present value of the bond payments was $8.5 million, and the corporation believes the difference between the present value and the amount paid is attributable to the conversion feature. On January 1, 2007 the corporation’s $30 par value common stock was split 3 for 1. On January 1, 2008, when the corporation’s $10 par value common stock was selling for $90 per share, holders of 40% of the convertible debentures exercised their conversion options. The corporation uses the straight line method for amortizing any bond discounts or premiums.
Required
1. Prepare the journal entry to record the original issuance of the convertible debentures.
2. Prepare the journal entry to record the exercise of the conversion option, using the book value method. Show supporting computations in good form.
Note Payable Issued in Exchange for an Asset On January 1, 2007 the Sanders Corporation purchased equipment having a fair value of $68,301.30 by issuing a non interest bearing, $100,000, four year note due December 31, 2010.
Required
Prepare the journal entries to record (1) the purchase of the equipment, (2) the annual interest charges over the life of the note, and (3) the repayment of the note. E14 22 Note Payable in Installments On January 1, 2007 the Billips Corporation purchased equipment having a fair value of $72,054.94 by issuing a $90,000 note, payable in three $30,000 annual installments beginning December 31, 2007. Required
Prepare (1) the journal entry to record the purchase of the equipment, (2) a schedule to compute the annual interest expense, and (3) the journal entries to record yearly interest expense and note repayments over the life of the note.
Contingencies Fallon Company, a toy manufacturer that also operates several retail outlets, is preparing its December 31, 2007 financial statements. It has identified the following legal situations that may qualify as contingencies:
1. A customer is suing the company for $800,000 in damages because her child was injured in November 2007 while riding an escalator that stopped suddenly in one of its stores. The child was hurt when he tripped and fell while walking “down” an escalator that was going “up.” Legal counsel feels that the child is partially at fault, but that it is probable that the lawsuit will be settled for between $50,000 and $100,000, with $80,000 being the most likely amount.
2. The company has discovered that a skateboard it began manufacturing and selling in 2007 has defective bearings, sometimes causing a wheel to fall off. The company has issued a “recall” notice in newspapers and magazines in which it offers to replace the bearings. It estimates a cost of $200,000 for these repairs. No lawsuits have been filed for injury claims, although the company feels that there is a reasonable possibility that claims may total as high as $2 million.
3. The company has an incinerator behind one of its retail outlets which is used to burn cardboard boxes received in shipments of inventory from suppliers. The state environmental protection agency filed suit against the company in August 2007 for air pollution. The company expects to stop using the incinerator and begin recycling. However, its lawyers believe that it is probable that a fine of between $40,000 and $60,000 will be levied against the company, although they cannot predict the exact amount.
4. In early 2007 the company signed a contract with a computer vendor to install “state of the art” cash registers in all of its retail outlets. Because of the vendor’s inability to acquire sufficient cash registers, the vendor canceled the contract. The company has filed a breach of contract suit against the vendor, claiming $300,000 in damages. The company’s lawyers expect that it will settle the suit “out of court” for $150,000.
Required
For each situation, prepare the journal entry (if any) on December 31, 2007 to record the information for Fallon Company, and explain your reasoning. If no journal entry is recorded, explain how the information would be disclosed in Fallon Company’s 2007 annual report.
Contingencies – Green law, Inc., a publishing company, is preparing its December 31, 2007 financial statements and must determine the proper accounting treatment for each of the following situations:
1. Green law sells subscriptions to several magazines for a one year, two year, or three year period. Cash receipts from subscribers are credited to magazine subscriptions collected in advance, and this account had a balance of $2,500,000 at December 31, 2007. Outstanding subscriptions at December 31, 2007 expire as follows:
During 2008
$600,000
During 2009
900,000
During 2010
400,000
2. On January 3, 2007 Green law discontinued collision, fire, and theft coverage on its delivery vehicles and became self insured for these risks. Actual losses of $45,000 during 2007 were charged to delivery expense. The 2006 premium for the discontinued coverage amounted to $100,000, and the controller wants to set up a reserve for self insurance by a debit to delivery expense of $55,000 and a credit to the reserve for self insurance of $55,000.
3. A suit for breach of contract seeking damages of $1,000,000 was filed by an author against Greenlaw on July 3, 2007. The company’s legal counsel believes that an unfavorable outcome is probable. A reasonable estimate of the court’s award to the plaintiff is in the range between $100,000 and $500,000. No amount within this range is a better estimate of potential damages than any other amount.
4. During December 2007 a competitor company filed suit against Greenlaw for industrial espionage claiming $2,000,000 in damages. In the opinion of management and company counsel, it is reasonably possible that damages will be awarded to the plaintiff. However, the amount of potential damages awarded to the plaintiff cannot be reasonably estimated.
Required
For each of the preceding situations, prepare the journal entry that should be recorded as of December 31, 2007, or explain why an entry should not be recorded. Show supporting computations in good form.
Short Term Debt Expected to Be Refinanced Several times during 2007, Palmer Company issued short term commercial paper totaling $7 million. On December 31, 2007, the company’s year end, Palmer intends to refinance the commercial paper by issuing long term debt. However, because of the temporary existence of excess cash, $3 million of the liability is liquidated in February 2008, as the commercial paper matures. On March 1, 2008 Palmer issues $9 million of long term bonds, with $3 million of the proceeds going to replenish the working capital used to liquidate the $3 million of commercial paper, $4 million to pay the remaining balance of the commercial paper due after April, and the remaining $2 million to finance an equipment modernization program at Palmer’s plant. Palmer’s December 31, 2007 year end financial statements are issued on March 13, 2008.
Required
1. How will the $3 million of commercial paper liquidated prior to the refinancing be classified on Palmer’s December 31, 2007 balance sheet? Explain your reasoning.
2. How will the remaining $4 million of commercial paper be classified on Palmer’s December 31, 2007 balance sheet? Explain your reasoning.
Short Term Debt Expected to Be Refinanced On December 31, 2007 Atwood Table Company has $8 million of short term notes payable owed to City National Bank. On February 1, 2008 Atwood negotiates a revolving credit agreement providing for unrestricted borrowings up to $6 million. Borrowings will bear interest at 1% over the prevailing prime rate, will have stated maturities of 120 days, and will be continuously renewable for 120 day periods for four years. Atwood plans to refinance as much as possible of the notes outstanding with the proceeds available from this agreement. Assume that Atwood’s December 31, 2007 year end financial statements are issued on March 30, 2008.
Required
Prepare a partial December 31, 2007 balance sheet for Atwood Table Company showing how the $8 million short term debt should be reported.
Comprehensive Selected transactions of the Lizard Lick Corporation during 2007 are as follows:
Jan. 5 Purchased merchandise from Boston Company for $30,000; terms, 2/10, n/30. Purchases and accounts payable are recorded by Lizard Lick using the net price method.
Jan. 26 Paid the January 5 invoice.
Mar. 31 Purchased a van for $19,950 from the Hill Sales Company, paying $9,950 in cash and issuing a 12%, one year note for the balance of the purchase price.
May 1 Borrowed money from the Mebane National Bank by discounting its own one year, non interest bearing note made out for the maturity value of $50,000 at an interest rate of 12%.
Nov. 2 Received $500 from the Carr Mill Playhouse as a deposit to be refunded after certain rental furniture to be used in a play is returned on January 7, 2008.
Nov. 5 Made sales on credit to Jones Company for $15,000. Sales taxes of 61X2% were added to the $15,000 price. (Ignore cost of goods sold.)
Nov. 6 Purchased another van at a cost of $18,000 from a company located in a state that does not levy a sales tax. The entire purchase price was paid in cash. Lizard Lick is located in a state that assesses a use tax of 61_2% on nonsalable equipment bought outside its sales tax authority. The van and the liability for the use tax are to be recorded.
Dec. 1 Estimated property taxes for the year December 1, 2007 to November 30, 2008 are $36,000 (ignore previous property taxes). The corporation follows the practice of recording its property tax by a monthly accrual starting one month following the lien date. The tax becomes a lien on December 1 and is payable in two installments on May 1 and October 1.
Dec. 31 Estimated quarterly income taxes for the last quarter of the year are $150,000.
Required
Prepare journal entries to record the preceding transactions for 2007. Include year end interest accruals.
Short Term Debt Expected to Be Refinanced The following is the current liability section of Hollo Hardware Company on December 31, 2007:
Accounts payable, trade
$50,000
Notes payable, 12%, due February 19, 2008
70,000
Unearned interest and revenue
12,000
Total current liabilities
$132,000
On January 15, 2008 Hollo enters into an agreement with the local bank to receive a line of credit for $60,000, available for the next two years with payment due 2 years after the date of the loan. Interest at 1% above the prime rate will be charged quarterly. On February 15, 2008 Hollo borrows the money to refinance the short term note due in three days.
Required
1. Does the preceding agreement allow Hollo to exclude any of the short term note from current liabilities on the December 31, 2007 balance sheet? If so, how much?
2. Would the result be the same if Hollo borrowed the money on February 26, 2008?
Short Term Debt Expected to Be Refinanced While auditing the 2007 financial statements of Warder Corporation, you found evidence that the following were not included in its current liabilities on the December 31, 2007 balance sheet:
1. Convertible bonds maturing in 60 days that were never converted.
2. Note payable due two months after the balance sheet date, with refinancing agreement entered into four weeks after the balance sheet date.
3. Notes payable of Warder’s completely owned subsidiary due its stockholders and payable upon demand.
4. Deposits from customers on equipment ordered by them from Warder.
Required
Discuss the assumptions needed for Warder to correctly exclude the previously mentioned items from the December 31, 2007 current liabilities. The balance sheet was issued on March 3, 2008.
Loss Contingencies Part a. The two basic requirements for the accrual of a loss contingency are supported by several basic concepts of accounting. Three of these concepts are:
periodicity (time periods), measurement, and objectivity.
Required
Discuss how the two basic requirements for the accrual of a loss contingency relate to the three concepts listed previously. Part b. The following three independent sets of facts relate to (1) the possible accrual or (2) the possible disclosure by other means of a loss contingency.
Situation I
A company offers a one year warranty for the product that it manufactures. A history of warranty claims has been compiled and the probable amount of claims related to sales for a given period can be determined.
Situation II
Subsequent to the date of a set of financial statements, but prior to the issuance of the financial statements, a company enters into a contract that will probably result in a significant loss to the company. The amount of the loss can be reasonably estimated.
Situation III
A company has adopted a policy of recording self insurance for any possible losses resulting from injury to others by the company’s vehicles. The premium for an insurance policy for the same risk from an independent insurance company would have an annual cost of $2,000. During the period covered by the financial statements, there were no accidents involving the company’s vehicles that resulted in injury to others.
Required
Explain the accrual and/or type of disclosure necessary (if any) and the reason(s) why such disclosure is appropriate for each of the three independent sets of facts in the situations described here. Complete your response to each situation before proceeding to the next situation.
Contingency and Commitment Supey Chemical Co. encountered the following two situations in 2007:
1. Supey must pay an indeterminate amount for toxic waste cleanup on its land. An adjoining land owner, Gap Toothpaste, sold its property because of possible toxic contamination by Supey of the water supply and resulting potential adverse public reaction towards its product.
Gap sued Supey for damages. There is a reasonable possibility that Gap will prevail in the suit.
2. At December 31, 2007, Supey had a noncancellable purchase contract for 10,000 pounds of Chemical XZ, for delivery in June 2008. Supey does not hedge its contracts. Supey uses this chemical to make Product 2 Y. In December 2007, the U.S. Food and Drug Administration banned the sale of Product 2 Y in concentrated form. Supey will be allowed to sell Product 2 Y in a diluted form; however, it will take at least five years to use the 10,000 pounds of Chemical XZ. Supey believes the sales price of the diluted product will not be sufficient to recover the contract price of Chemical XZ.
Required
1. (a) In its 2007 financial statements, how should Supey report the toxic waste cleanup? Why is this reporting appropriate? (b) In its 2007 financial statements, how should Supey report Gap’s claim against it? Why is this reporting appropriate?
2. In its 2007 financial statements, how should Supey report the effects of the contract to purchase Chemical XZ? Why is this reporting appropriate?
Various Liability Issues Angela Company is a manufacturer of toys. During the year, the following situations arose:
1. A safety hazard related to one of its toy products was discovered. It is considered probable that liabilities have been incurred. Based on past experience, a reasonable estimate of the amount of loss can be made.
2. One of its small warehouses is located on the bank of a river and could no longer be insured against flood losses. No flood losses have occurred after the date that the insurance became unavailable.
3. This year, Angela began promoting a new toy by including a coupon, redeemable for a movie ticket, in each toy’s carton. The movie ticket, which costs Angela $2, is purchased in advance and then mailed to the customer when the coupon is received by Angela. Angela estimated, based on past experience, that 60% of the coupons would be redeemed. Forty percent of the coupons were actually redeemed this year, and the remaining 20% of the coupons are expected to be redeemed next year.
Required
1. How should Angela report the safety hazard? Explain why. Do not discuss deferred income tax implications.
2. How should Angela report the noninsurable flood risk? Explain why.
3. How should Angela account for the toy promotion campaign in this year?
Various Contingency Issues Skinner Company has the following contingencies:
1. Potential costs due to the discovery of a possible defect related to one of its products. These costs are probable and can be reasonably estimated.
2. A potential claim for damages to be received from a lawsuit filed this year against another company. It is probable that proceeds from the claim will be received by Skinner next year.
3. Potential costs due to a promotion campaign whereby a cash refund is sent to customers when coupons are redeemed. Skinner estimated, based on past experience, that 70 percent of the coupons would be redeemed. Forty percent of the coupons were actually redeemed and the cash refunds sent this year. The remaining 30 percent of the coupons are expected to be redeemed next year.
Required
1. How should Skinner report the potential costs due to the discovery of a possible product defect? Explain why.
2. How should Skinner report this year the potential claim for damages that may be received next year? Explain why.
3. This year, how should Skinner account for the potential costs and obligations due to the promotion campaign?
Various Contingency Issues At December 31, 2007, Niki Company reviewed the following situations to consider their impact on its 2007 financial statements:
1. In December 2007, Niki became aware of a safety hazard related to one of its products. Estimates of the probable costs resulting from the hazard include highest, most likely, and lowest amounts.
2. During 2007, Niki received a note for goods sold to a customer. The note was sold, with recourse, to a bank. The customer filed for bankruptcy in December 2007, before the note’s 2008 due date.
3. In 2003, Niki moved and assigned the remaining 10 years of its old lease to Pro Company, an unrelated third party. Pro agreed to make all payments due on the assigned lease, but Niki has prime responsibility for the lease to the lessor. At December 31, 2007, it is reasonably possible that Pro will be unable to make all payments due on the assigned lease.
Required
For each of the preceding situations, state how Niki should report the impact, if any, on its 2007 financial statements, and explain why the reporting is appropriate.
Product and Lawsuit Contingencies Reese Company sells two types of merchandise, Type A and Type B. Each carries a one year warranty.
Type A merchandise: Product warranty costs, based on past experience, will normally be 1% of sales.
Type B merchandise: Product warranty costs cannot be reasonably estimated because this is a new product line.
However, the chief engineer believes that product warranty costs are likely to be incurred. Reese Company is also being sued for $2,000,000 for an injury caused to a child as a result of alleged negligence while the child was visiting the Reese Company plant in March 2007. The suit was filed in July 2007. Reese’s lawyer states that it is probable that Reese will lose the suit and be found liable for a judgment costing anywhere from $200,000 to $900,000. However, the lawyer states that the most probable judgment is $400,000.
Required
1. How should Reese report the estimated product warranty costs for each of the two types of merchandise mentioned earlier? Explain the rationale for your answer.
Do not discuss deferred income tax implications, or disclosures that should be made in Reese’s 2007 financial statements or notes.
2. How should Reese report the suit in its 2007 financial statements? Explain the rationale for your answer.
Include in your answer disclosures, if any, that should be made in Reese’s financial statements or notes.
Analyzing Coca Cola’s Current Liabilities and Contingencies Disclosures Refer to the financial statements and related notes of the Coca Cola Company in Appendix A of this book.
Required
1. What were the total current liabilities at the end of 2004? What was the largest current liability?
2. What did accounts payable and accrued expenses consist of at the end of 2004?
3. What was the total loans and notes payable and what did they consist of at the end of 2004? What was the total of the lines of credit (and other short term credit facilities) that were available to the company at the end of 2004? How much is outstanding? Why do you think the company disclosed the lines of credit information?
4. How much was the company contingently liable for in regard to the guarantees of indebtedness owed by third parties at the end of 2004? What does this mean? How likely is it that the company will have to satisfy these guarantees?
Researching GAAP Situation Bogan Company is in need of cash to finance its operations. The company creates a new company, Hall Company, which is wholly owned by Bogan. On November 1, 2007 Bogan sells inventory on credit to Hall Company for $50,000, which in turn immediately uses the inventory for a $40,000, 12% loan (guaranteed by Bogan) from 8th National Bank. Hall then uses the proceeds from the loan to repay $40,000 of the $50,000 owed to Bogan. Bogan agrees to continue to extend credit for nine months to Hall for the remaining $10,000. The inventory is Hall’s only asset and is stored in a public warehouse. Bogan agrees to pay Hall the $200 monthly storage fee and $400 per month for a financing fee at the end of each month. Bogan also agrees to repurchase the inventory from Hall for $50,000 at the end of July 2008. Bogan uses a perpetual inventory system; the cost of the inventory sold to Hall is $42,000. The president of Bogan has asked you how to account for this series of transactions in 2007.
Directions
Research the related generally accepted accounting principles and prepare a short memo to the president that explains how Bogan Company should record the sale of the inventory on November 1, 2007 and the payment of the fees at the end of November and December. Also explain how Bogan should report the recorded items in its 2007 financial statements. Cite your reference and applicable paragraph numbers.
Researching GAAP Situation Gilmatt Company developed a new product that it planned to sell directly to customers and to promote heavily because of “stiff” competition in the market place. Its marketing department did extensive market surveys and developed a marketing plan for this product. The plan called for a series of television commercials and magazine advertisements. The television commercials aired for two months (September and October) in 2007 to (a) advertise the product and (b) indicate to viewers that “$5 off” coupons would be appearing in forthcoming magazine advertisements. The magazine advertisements appeared evenly over a three month period from November 2007 through January 2008 and further promoted the product, as well as included the coded $5 off coupons (which expired at the end of February 2008.) Gilmatt expected 20,000 coupons to be redeemed. During November and December 2007, Gilmatt sold 2,000 units of the new product at the $50 regular price and 8,000 units at the $45 coded coupon price. In January 2008, the company sold another 3,000 units at $50 each and 7,000 units at $45 each. It expects customers to redeem another 5,000 coupons before the coupons expire. It is now late January 2008 and the company is preparing its 2007 annual report.
The marketing department has prepared the following schedule of its 2007 costs related to the advertising and promotion of the new product: supervisor’s salary, $10,000; payroll of employees working on magazine advertising copy, $40,000; depreciation, $7,500; cost of television commercials (independently produced), $180,000; cost of magazine space for advertisements, $100,000; cost of television airtime, $300,000.
Direction
Research the related generally accepted accounting principles and indicate how Gilmatt Company should report the costs of marketing the new product and the related sales revenues on its 2007 financial statements. Cite your reference and applicable paragraph numbers.
Research and Development Costs The Gratwick Company is in the process of developing a revolutionary new product. A new division of the company was formed to develop, manufacture, and market this new product. As of year end (December 31, 2006), the new product has not been manufactured for resale; however, a prototype unit was built and is in operation. Throughout 2007 the new division incurred certain costs. These costs include design and engineering studies, prototype manufacturing costs, administrative expenses (including salaries of administrative personnel), and market research costs. In addition, the company purchased approximately $500,000 in equipment (estimated useful life, 10 years) for use in developing and manufacturing the new product. The company built approximately $200,000 of this equipment specifically for the design and development of the new product; it used the remaining $300,000 of equipment to manufacture the preproduction prototype and will use it to manufacture the new product once it is in commercial production.
Required
1. What is the definition of research and development as defined in FASB Statement No. 2?
2. Briefly indicate the practical and conceptual reasons for the conclusion reached by the FASB on accounting practices for research and development costs.
3. In accordance with FASB Statement No. 2, how should Gratwick record the various costs in the financial statements for the year ended December 31, 2007?
Good will After extended negotiations, Rothman Corporation bought from Felzar Company most of the latter’s assets on June 30, 2007. At the time of the sale, Felzar’s accounts (adjusted to June 30, 2007) reflected the following descriptions and amounts for the assets transferred:
Cost
Contra (Valuation)Account
Book Value
Receivables
$83,600
$3,000
$80,600
Inventory
107,000
5,200
101,800
Land
20,000
—
20,000
Buildings
207,500
73,000
134,500
Fixtures and equipment
205,000
41,700
163,300
Goodwill
50,000
—
50,000
$673,100
$122,900
$550,200
You ascertain that the contra (valuation) accounts were allowance for doubtful accounts, allowance to reduce inventory to market, and accumulated depreciation. During the extended negotiations, Felzar held out for a consideration of approximately $600,000 (depending on the level of the receivables and inventory). As of June 30, 2007, however, Felzar agreed to accept Rothman’s offer of $450,000 cash plus 1% of the net sales (as defined in the contract) of the next five years, with payments at the end of each year. Felzar expects that Rothman’s total net sales during this period will exceed $15 million.
Required
1. Explain how Rothman Corporation should record this transaction.
2. Discuss the propriety of recording goodwill in the accounts of Rothman Corporation for this transaction.
Good will Elson Corporation, a retail fuel oil distributor, has increased its annual sales volume to a level three times greater than the annual sales of a dealer it purchased in 2003 in order to begin operations. The board of directors recently received an offer to negotiate the sale of Elson Corporation to a large competitor. As a result, the majority of the board wants to increase the stated value of goodwill on the balance sheet to reflect the larger sales volume developed through intensive promotion and the current market price of sales gallonage. A few of the board members, however, would prefer to eliminate goodwill altogether from the balance sheet in order to prevent “possible misinterpretations.” Goodwill was recorded properly in 2003.
Required
1. Explain the meaning of the term goodwill.
2. Explain why the book and fair values of the goodwill of Elson Corporation are different.
3. Discuss the propriety of (a) increasing the stated value of goodwill prior to the negotiations and (b) eliminating goodwill completely from the balance sheet prior to negotiations.
Patents On June 30, 2007 your client, Sprauge Corporation, was granted two patents covering plastic cartons that it has been producing and marketing profitably for the past three years. One patent covers the manufacturing process and the other covers the related products. Sprauge executives tell you that these patents represent the most significant breakthrough in the industry in the past 30 years. The products have been marketed under the registered trademarks Safetainer, Duratainer, and Sealrite. Your client has already granted licenses under the patents to other manufacturers in the United States and abroad and they are producing substantial royalties.
On July 1 Sprauge commenced patent infringement actions against several companies whose names you recognize as those of substantial and prominent competitors. Sprauge management is optimistic that these suits will result in a permanent injunction against the manufacture and sale of the infringing products and collection of damages for loss of profits caused by the alleged infringement. The financial vicepresident has suggested that the patents be recorded at the discounted value of expected net royalty receipts.
Required
1. Explain the meaning of discounted value of expected net receipts.
2. How would such a value be calculated for net royalty receipts?
3. Explain the basis of valuation of Sprauge’s patents that would be generally accepted in accounting.
4. Assuming no practical problems of implementation and ignoring generally accepted accounting principles, explain the preferable basis of valuation for patents.
5. Explain what would be the preferable theoretical basis of amortization.
6. Explain what recognition, if any, the company should make of the infringement litigation in the financial statements for the year ending September 30, 2007.
Cost of Intangibles After securing lease commitments from several major stores, Silver Springs Shopping Center, Inc., was organized and built a shopping center in a growing suburb. The shopping center would have opened on schedule on January 2, 2008 if it had not been struck by a severe tornado in December; it opened for business on October 2, 2008. All the additional construction costs incurred as a result of the tornado were covered by insurance. In July 2007 in anticipation of the scheduled January opening, a permanent staff was hired to promote the shopping center, obtain tenants for the uncommitted space, and manage the property. A summary of some of the costs incurred in 2007 and the first nine months of 2008 follows:
2007
Jan. 1, to Sept. 30, 2008
Interest on mortgage bonds
$60,000
$90,000
Cost of obtaining tenants
28,000
58,000
Promotional advertising
34,000
34,000
The promotional advertising campaign was designed to familiarize shoppers with the center. Had the company known in time that the center would not open until October 2008, it would not have made the 2007 expenditure for promotional advertising. The company had to repeat the advertising in 2008.
All the tenants who had leased space in the shopping center at the time of the tornado accepted the October occupancy date on condition that the monthly rental charges for the first nine months of 2008 be canceled.
Required
Explain how the company should treat each of the costs for 2007 and the first nine months of 2008. Give the reasons for each treatment.
Analyzing Coca Cola’s Intangibles Disclosures Refer to the financial statements and related notes of the Coca Cola Company in Appendix A of this book.
Required
1. What was the total amount of intangible assets that the company reported at the end of 2004, and what was the amount of each component?
2. Do you think that the company has additional “intangibles” that are not recorded on the balance sheet? Why? How would this issue affect your understanding of the company’s financial performance?
3. Re create summary journal entries to record the transactions and events that affected the “amortized intangible assets” in 2004, assuming there were no sales.
4. Compute the estimated average life of the “amortized intangible assets.”
5. Why does the company amortize some of its intangible assets but not others?
Ethics and Intangibles You are auditing the financial records of a company and you are aware that it has grown quickly in the last few years by acquiring other companies. You look up the disclosure in last year’s annual report, which states, “The company amortizes its intangibles over periods ranging from 3 to 15 years.” As you review the company’s records, you find that the company made an acquisition of a “high tech” company three years ago and has not recognized any impairment on the related goodwill. In the last six years, the company has made five other acquisitions and has not recognized any impairment related to them. Included in the acquisitions are several patents that are amortized over nine years and some intangibles with indefinite lives.
Required
From financial reporting and ethical perspectives, discuss the issues raised by this situation.
During 2007 Lawton Company introduced a new line of machines that carry a three year warranty against manufacturer’s defects. Based on industry experience, warranty costs are estimated at 2% of sales in the year of sale, 4% in the year after sale, and 6% in the second year after sale. Sales and actual warranty expenditures for the first three year period were as follows:
Sales
Actual Warranty Expenditures
2007
$200,000
$3,000
2008
500,000
15,000
2009
700,000
45,000
$1,400,000
$63,000
What amount should Lawton report as a liability at December 31, 2009?
All of Rolf Co.’s employees are entitled to two weeks of paid vacation for each full year in Rolf’s employ. Unused vacation time can be accumulated and carried forward to succeeding years and will be compensated at the salary in effect when the vacation is taken. Mary Beal started her employment with Rolf on January 1, 2001. As of December 31, 2007, when Beal’s salary was $500 per week, Beal had used 10 weeks of her accumulated vacation time. In December 2007 Beal notified Rolf of her intention to use her accumulated vacation weeks in June 2008. Rolf regularly scheduled salary adjustments in July of each year. Rolf properly did not deduct compensation for unused vacations in Rolf ’s 2007 income tax return. How much should Rolf report as a liability at December 31, 2007 for Beal’s accumulated vacation time?
Bronson Apparel, Inc., operates a retail store and must determine the proper December 31, 2007 year end accrual for the following expenses:
The store lease calls for fixed rent of $1,000 per month, payable at the beginning of the month, and additional rent equal to 6% of net sales over $200,000 per calendar year, payable on January 31 of the following year. Net sales for 2007 are $800,000. Bronson has personal property subject to a city property tax. The city’s fiscal year runs from July 1 to June 30 and the tax, assessed at 3% of personal property on hand at April 30, is payable on June 30. Bronson estimates that its personal property tax will amount to $6,000 for the city’s fiscal year ending June 30, 2008. In its December 31, 2007 balance sheet, Bronson should report accrued expenses of
The balance in Ashwood Company’s Accounts Payable account at December 31, 2007 was $900,000 before any necessary year end adjustment relating to the following:
Goods were in transit from a vendor to Ashwood on December 31, 2007. The invoice cost was $50,000, and the goods were shipped FOB shipping point on December 29, 2007. The goods were received on January 2, 2008. Goods shipped FOB shipping point on December 19, 2007 from a vendor to Ashwood were lost in transit. The invoice cost was $25,000. On January 5, 2008 Ashwood filed a $25,000 claim against the common carrier. Goods shipped FOB destination on December 22, 2007 from a vendor to Ashwood was received on January 6, 2008. The invoice cost was $15,000. What amount should Ashwood report as accounts payable on its December 31, 2007 balance sheet?
On September 1, 2007 a company borrowed cash and signed a one year, interest bearing note on which both the principal and interest are payable on September 1, 2008. How will the note payable and the related interest be classified in the December 31, 2007 balance sheet?
Morgan Company determined that (1) it has a material obligation relating to employees’ rights to receive compensation for future absences attributable to employees’ services already rendered, (2) the obligation relates to rights that vest, and (3) payment of the compensation is probable. The amount of Morgan’s obligation as of December 31, 2007 is reasonably estimated for the following employee benefits:
Vacation pay
$100,000
Holiday pay
25,000
What total amount should Morgan report as its liability for compensated absences in its December 31, 2007 balance sheet?
Compensated Absences The Bettinghaus Corporation began business on January 2, 2007 with five employees. It created a sick leave and vacation policy stated as follows: Each employee is allowed eight days of paid sick leave each year and one day of paid vacation leave for each month worked. The accrued vacation leave cannot be taken until the employee has been with the company one year. The sick leave, if not used, accumulates to an 18 day maximum. The vacation leave accumulates for five years, but at any time the employee may request additional compensation in lieu of taking paid vacation leave. The company considers that the requirements of FASB Statement No. 43 have been met and desires to record the liability for both compensated absences on a quarterly basis. The daily gross wages for each employee are $160.
Required
1. Prepare journal entries to record the liability for compensated absences for the first quarter of 2007. Assume no sick leave had been taken by the employees.
2. Prepare a partial interim balance sheet showing how the liability created in Requirement 1 would be reported on March 31, 2007.
Short Term Debt Expected to Be Refinanced On December 31, 2007 Excello Electric Company had $1 million of short term notes payable due February 7, 2008. Excello expected to refinance these notes on a long term basis.
On January 15, 2008 the company issued bonds with a face value of $900,000 at 98; brokerage fees and other costs of issuance were $3,450.
On January 22, 2008 the proceeds from the bond issue plus additional cash held by the company on December 31, 2007 were used to liquidate the $1 million of short term notes. The December 31, 2007 balance sheet is issued on February 12, 2008.
Required
Prepare a partial balance sheet as of December 31, 2007 showing how the $1 million of short term notes payable should be disclosed. Include an appropriate footnote for proper disclosure.
Accounts Payable and Cash Discounts The Byrd Company had the following transactions during 2007 and 2008:
1. On December 24, 2007 a computer was purchased on account from Computers International for $60,000. Terms of the sale were 2/10, n/30.
2. Byrd calculated that to forgo the discount for the computer would be the equivalent of paying 36% interest annually on the $58,800 for the extra 20 days. Therefore, Byrd went to First Local Bank and signed a $60,000, 30 day note at 12% in order to take advantage of the discount terms. This transaction took place on December 29, 2007. (The account payable was paid on January 2, 2008 and the note was paid at maturity.)
3. On December 30, 2007, Byrd declared a $2.00 cash dividend to the common stockholders. Ten thousand shares were outstanding on this date. The dividend is to be paid on January 5, 2008.
Required
1. Prepare the journal entries for the Byrd Company for both 2007 and 2008. Assume that the net price method is used to account for the credit terms.
2. Show how the preceding items would be reported in the current liabilities section of Byrd’s December 31, 2007 balance sheet.
3. Assuming Byrd’s current assets were $1,200,000 and its current ratio was 2.4 at the end of 2006, compute the current ratio at the end of 2007 (based solely on the effects of the preceding transactions).
Compensated Absences The Rexallo Company begins business on January 2, 2007 with 15 employees. Its company policy is to permit each employee to take six days of paid sick leave each year and one and one half days of paid vacation leave for each month worked. The accrued vacation leave cannot be taken until the employee has been with the company nine months. The sick leave, if not used, accumulates to a 24 day maximum. The vacation leave accumulates for two years, but at any time after a one year period the employee may request additional compensation in lieu of taking paid vacation leave. The company desires to record the liability for compensated absences on a quarterly basis. Assume that the gross wages for each employee are $100 per day. The following selected events take place during the first two quarters of 2007:
1. On March 31, 2007 the quarterly liability for compensated absences is to be recorded.
2. On April 30, 2007 the following $45,000 monthly payroll, including paid vacation and sick leave, is summarized from the records of Rexallo:
Payroll for
Time Worked
Vacation Taken
Sick Leave Taken
Salaries
$42,000
$1,800
1200
3. On June 30, 2007 the quarterly liability for compensated absences is to be recorded.
Frank Johnson
$27,000
Bill Long
18,000
Duff Morse
95,000
Laura Stewart
28,000
Cindy Sharpe
26,000
Melissa Ledbetter
20,000
Total
$214,000
The state allows the company a 1% unemployment compensation merit rating reduction from the normal rate of 5.4%. The federal unemployment rate is 0.8%. The maximum unemployment wages per employee are $7,000 for both the state and the federal government. Income tax withholdings of 20% are applied to all employees. An 8% F.I.C.A. tax for both employees and employers is applied to the first $90,000 of each employee’s wages.
Required
1. Calculate the amount of payroll taxes to be paid by Bailey.
2. Prepare the journal entries to record the payment of payroll and the payroll tax expense.
Property Taxes The Rosen Corporation was formed on December 12, 2006. It plans to close its books annually each December 31. The corporation is located in Lanmark City and Apple County. The fiscal period of these two governmental units runs from July 1 to June 30. The property tax that they assess on property held on January 1 of each year becomes a lien against the property on July 1. The estimated property taxes for Rosen Corporation for the period July 1, 2007 to June 30, 2008 are $15,300. The tax bill is mailed in October with a requirement that the tax be paid before December 31. The tax bill received on October 30, 2007 for the Rosen Corporation revealed an actual tax of $15,680, and the corporation paid this amount on November 30, 2007. The corporation elects to record monthly property tax adjustments for interim statements required by management.
Required
1. Prepare all property tax related entries for Rosen for the period July 1, 2007 to June 30, 2008.
2. Show how the preceding information would be reported on the December 31, 2007 balance sheet of Rosen Corporation.
Expense Warranty Accrual Method Clean All, Inc., sells washing machines with a three year warranty. In the past Clean All has found that in the year after sale, warranty costs have been 3% of sales; in the second year after sale, 5% of sales;and in the third year after sale, 7% of sales. The following data are also available:
Year
Sales
Warranty Expenditures
2007
$500,000
$62,000
2008
650,000
82,000
2009
700,000
85,000
Required
1. Prepare the journal entries for the preceding transactions for 2007–2009, using the expense warranty accrual method. Closing entries are not required.
2. What amount would Clean All report as a liability on its December 31, 2009 balance sheet, assuming the liability had a balance of $88,200 on December 31, 2006?
Premium Obligation Yummy Cereal Company is offering one toy shovel set for 15 box tops of its cereal. Year to date sales have been off, and it is hoped that this offer will stimulate demand. Each shovel set costs the company $3. The following data are available for the last three months of 2007:
Month
Boxes of Cereal Sold
Shovel Sets Purchased by the Company
Box Tops Redeemed by Customers
October
21,000
880
12,000
November
24,000
1,083
16,005
December
33,000
1,697
20,745
It is estimated that only 70% of the box tops will be redeemed. The cereal sells for $2.80 per box.
Required
1. Prepare journal entries for each month to record sales, shovel set purchases, redemptions, and closing entries, assuming that the books are closed at the end of each month.
2. Assuming Yummy prepares monthly financial statements, indicate how the premiums and the estimated liability would be disclosed on Yummy’s ending balance sheets for October, November, and December.
Intangibles The Barnum Company acquired several small companies at the end of 2006 and, based on the acquisitions, reported the following intangibles in its December 31, 2006 balance sheet:
The company’s accountant determines the patent has an expected life of 10 years and no expected residual value, and that it will generate approximately equal benefits each year. The company expects to use the trade name for the foreseeable future. The accountant knows that the computer software is used in the company’s 120 sales offices. The company has replaced the software in 60 offices in 2007, and expects to replace the software in 40 more offices in 2008 and the remainder in 2009.
Required
How much amortization expense should the company recognize on each intangible asset in 2007?
Goodwill The Marino Company had the following balance sheet on January 1, 2007:
Current assets
$50,000
Current liabilities
$30,000
Property, plant, and equipment
200,000
Noncurrent liabilities
100,000
Intangible assets
20,000
Stockholders’ equity
140,000
$270,000
$270,000
On January 2, 2007 the Paul Company purchased the Marino Company by acquiring all its outstanding shares for $300,000 cash. On that date the fair value of the current assets was $40,000, and the fair value of the property, plant, and equipment was $240,000. In addition, the fair value of a previously unrecorded intangible asset was $25,000.
Required
Compute the goodwill associated with the purchase of the Marino Company.
Cost of Intangibles The Brush Company engaged in the following transactions at the beginning of 2007:
1. Purchased a patent for $70,000 that had originally been filed in January 2001. The purchase was made to protect another patent that the company had filed for in January 2003 and subsequently received.
2. Purchased the rights to a novel by a best selling novelist in exchange for 10,000 shares of $10 par value common stock selling for $60 per share. The book sells one million copies in 2007 and is expected to sell a total of 500,000 copies in future years.
3. Purchased the franchise to operate a ferry service from the state government for $10,000. A bridge has been planned to replace the ferry, and it is expected that it will be completed in five years. Brush hopes that the ferry will continue as a tourist attraction, but profits are expected to be only 20% of those earned before the bridge is opened.
4. Paid $28,000 of legal costs to successfully defend the patent acquired in transaction 1.
5. Paid a race car driver $50,000 to have the Brush Company name prominently displayed on his car for two years.
Required
Prepare journal entries to record the preceding transactions, including the first year’s amortization of intangible assets where appropriate. Amortize over the legal life unless a better alternative is indicated.
Cost of Intangibles The Byrd Corporation engaged in the following transactions at the beginning of 2007:
1. Purchased a Hogburger franchise for a five year, $60,000, 10% interest bearing note. The franchise has an indefinite life providing the terms of the franchise are not violated.
2. Sold a trade name for $50,000. The trade name had a carrying value of $5,000.
3. Paid an advertising agency $60,000 to develop a two year advertising campaign to promote a new trade name.
4. Incurred legal fees of $5,000 to register a new tradename.
5. Purchased the copyright to a new movie for $500,000. The movie is made during 2007 at a cost of $15 million. It will begin showing in 2008 and is expected to gross $10 million during 2008, $20 million during 2009, and $10 million during 2010.
Required
Prepare journal entries to record the preceding transactions, including any appropriate adjusting entries for 2007.
Correct Classification of Intangibles During the current year, the accountant for the Cartwright Corporation recorded numerous transactions in an account labeled Intangibles as follows:
Jan. 2
Incorporation fees
$17,500
Jan. 10
Legal fees for the organization of the company
7,500
Jan. 25
Paid for large scale advertising campaign for the year
15,000
Apr. 1
Acquired land for $15,000 and a building for $20,000 to house the R&D activities. The building has a 20 year life.
35,000
15 May
Purchased materials exclusively for use in R&D activities. Of these materials, 20% are left at the end of the year and will be used in the same project next year. (They have no alternative use.)
15,000
30 Jun
Filed for a patent
10,000
1 Jul
Operating loss for first six months of the year
12,000
Dec. 11
Purchased an experimental machine from an inventor. The machine is expected to be used for a particular R&D activity for two years, after which it will have no residual value.
12,000
Dec. 31
Paid employees involved in R&D
30,000
Required
Prepare adjusting journal entries to eliminate the Intangibles account and correctly record all the items. The company amortizes patents over 10 years.
Correcting Entries for Patents During the year end audit of the Cressman Corporation’s financial statements for 2007, you discover the following items:
1. The company had capitalized $57,000 to the Patent account at the beginning of 2006 for the cost of a patent. This amount included $50,000 of R&D costs. The patent was amortized over a 20 year life in 2006 and 2007.
2. At the beginning of 2006, the company had paid its lawyers $8,000 to successfully defend a patent infringement suit regarding the patent in item 1. The company debited this cost to legal fees expense.
3. At the beginning of 2007, the company purchased a patent for $30,000 from the Baylor Company to prevent potential competition. It recorded the cost in the Patent account and amortized this cost over the remaining legal life of the patent obtained in item 1. However, the company agreed to a suggestion by the auditors that the life of the company patent obtained in item 1 was protected for only seven more years as of the beginning of 2007.
Required
Prepare adjusting journal entries on December 31, 2007.
Intangibles The Jolis Company has provided information on the following items:
1. A patent was purchased from the Totley Company for $500,000 on January 1, 2006. At that time, Jolis estimated the remaining useful life to be 10 years. The patent was carried on Totley’s books at $20,000 when it sold the patent.
2. On March 2, 2007 a franchise was purchased from the Unal Company for $240,000. In addition, 8% of the revenue from the franchise must be paid to Unal. Revenue earned during 2007 was $620,000. Jolis believes that the life of the franchise is indefinite and that the franchise is not impaired at the end of 2007.
3. Research and development costs were incurred as follows: (a) materials and equipment: $50,000; (b) personnel: $80,000; and (c) indirect costs: $40,000. The costs were incurred to develop a product that will go on sale in 2008 and will have an expected life of five years.
4. A trade name had been purchased for a sugar substitute at the beginning of 2003 for $80,000. In January 2007 it was suspected that the product caused cancer and so the trade name was abandoned.
5. The company purchased the net assets of Lansing Company on September 1, 2004 for $950,000, and the Lansing Company was liquidated. The Lansing Company had the following book (fair) values:
current assets, $200,000 ($210,000);
property, plant, equipment, $750,000 ($900,000), liabilities, $250,000 ($250,000). Any goodwill is not impaired at the end of 2007.
Required
Prepare journal entries for the Jolis Company for 2007. The company uses the straight line method of amortization computed to the nearest month over the maximum allowable life. Assume that the company pays all costs in cash, unless otherwise indicated.
R&D Costs The controller of the Halpern Company prepared the following income statement and balance sheet at the end of the first year of the company’s existence:
Income Statement
Sales revenue
$40,000
Cost of sales
20,000
Operating expenses
8,000
Net income
$12,000
Balance Sheet
Cash
$33,000
Accounts payable
$5,000
Inventory
24,000
Notes payable
40,000
R&D costs
30,000
Common stock
50,000
Property, plant, and equipment (net)
20,000
Retained earnings
12,000
$107,000
$107,000
Investigation shows that R&D costs include, among others, half the year’s operating costs because “the company is not yet operating at capacity.” In addition R&D costs include $5,000 of materials that were wasted during early production because “our employees made some unnecessary mistakes.”
Required
1. Prepare the financial statements according to generally accepted accounting principles.
2. Compute the company’s return on assets under both the original and revised financial statements.
Intangibles The Bailey Company was formed in January 2005 and is preparing its financial statements under GAAP for the first time at the end of 2007. Its general ledger at December 31, 2007 includes the following assets:
Patent
$120,000
Copyright
140,000
Trade name
150,000
Computer software
90,000
Organization costs
30,000
Research and development
250,000
Intellectual capital
150,000
Goodwill
90,000
As the recently hired accountant for the company, you have been asked to make sure that the company’s accounting for intangibles follows GAAP. You know that, because the company has never issued financial statements according to GAAP, any adjustments that are made to correct violations of GAAP are recorded as an adjustment to its retained earnings. You determine that the patent has an expected life of 15 years at the end of 2007 and no residual value, and that it will generate approximately equal benefits each year. You also determine that the company will use the copyright and trade name for the foreseeable future. The computer software is used in the company’s 20 offices around the country; it was replaced in 40% of the offices in 2007 and will be replaced in the remaining offices next year. On further examination, you find that the company had previously capitalized the expected value of its “human resources” as intellectual capital, with a corresponding increase in additional paid in capital.
You also determine that the trade name and goodwill arose from an acquisition of a subsidiary company at the end of 2006. Because of a significant adverse change in the market, you decide that both assets are impaired. You estimate that the fair value of the trade name is $50,000. The subsidiary company has a book value of $500,000, including the goodwill of $90,000. You estimate that the subsidiary’s fair value is $300,000, of which $250,000 is allocated to its identifiable assets and liabilities.
Required
Prepare journal entries to provide the correct information under GAAP at the end of 2007.
Goodwill The Hamilton Company balance sheet on January 1, 2007 was as follows:
Cash
$30,000
Current liabilities
$20,000
Accounts receivable
80,000
Bonds payable
120,000
Marketable securities (short term)
40,000
Pension liability
50,000
Inventory
100,000
Common stock
200,000
Property, plant, and equipment (net)
200,000
Retained earnings
60,000
$450,000
$450,000
The Korbel Company is considering purchasing the Hamilton Company (a privately held company) and discovers the following about the Hamilton Company:
1. No allowance for uncollectibles has been established. A $10,000 allowance is considered appropriate.
2. Marketable securities are valued at cost. The current market value is $60,000.
3. The LIFO inventory method is used. The FIFO inventory of $140,000 would be used if the company is acquired.
4. Land, included in property, plant, and equipment, which is recorded at its cost of $50,000, is worth $120,000. The remaining property, plant, and equipment is worth 10% more than its depreciated cost.
5. The company has an unrecorded trademark that is worth $70,000.
6. The company’s bonds are currently trading for $130,000 and the common stock for $300,000.
7. The pension liability is understated by $40,000.
Required
1. Compute the value of the implied goodwill if the Korbel Company agrees to pay $500,000 cash for the Hamilton Company.
2. Prepare the journal entry to record the acquisition on the books of the Korbel Company, assuming the Hamilton Company is liquidated.
3. If the Korbel Company agrees to pay only $400,000 cash, how much is the implied goodwill?
4. If the Korbel Company pays only $400,000 cash, prepare the journal entry to record the acquisition on its books assuming the Hamilton Company is liquidated.
Intangibles: Expense and Disclosure Munn, Inc., had the following intangible account balances at December 31, 2006:
Patent
$192,000
Accumulated amortization
24,000
Transactions during 2007 and other information relating to Munn’s intangible assets were as follows:
1. The patent was purchased from Grey Company for $192,000 on January 1, 2005, at which date the remaining legal life was 16 years. On January 1, 2007, Munn determined that the useful life of the patent was only eight years from the date of acquisition.
2. On January 2, 2007, in connection with the purchase of a trademark from Cody Corporation, the parties entered into a noncompetition agreement and a consulting contract. Munn paid Cody $800,000, of which three quarters was for the trademark and one quarter was for Cody’s agreement not to compete for a five year period in the line of business covered by the trademark. Munn considers the life of the trademark to be indefinite. Under the consulting contract, Munn agreed to pay Cody $50,000 annually on January 2 for five years. The first payment was made on January 2, 2007. The trademark is not impaired at the end of 2007.
Required
1. Prepare a schedule of the expenses for 2007 relating to Munn’s intangible asset balances at December 31, 2006 and transactions during 2007.
2. Prepare the intangible assets section of Munn’s balance sheet at December 31, 2007.
Intangibles: Assets and Expenses The Barb Company has provided information on intangible assets as follows:
1. A patent was purchased from the Lou Company for $1,500,000 on January 1, 2006. Barb estimated the remaining useful life of the patent to be 10 years. The patent was carried in Lou’s accounting records at a net book value of $1,250,000 when Lou sold it to Barb.
2. During 2007, a franchise was purchased from the Rink Company for $500,000. In addition, 5% of revenue from the franchise must be paid to Rink. Revenue from the franchise for 2007 was $2,000,000. Barb estimates the useful life of the franchise to be 10 years and takes a full year’s amortization in the year of purchase.
3. Barb incurred research and development costs in 2007 as follows:
Materials and equipment
$120,000
Personnel
140,000
Indirect costs
60,000
$320,000
Barb estimates that these costs will be recouped by December 31, 2008.
4. On January 1, 2007 Barb, based on new events that have occurred in the field, estimates that the remaining life of the patent purchased on January 1, 2006 is only five years from January 1, 2007.
Required
1. Prepare a schedule showing the intangibles section of Barb’s balance sheet at December 31, 2007. Show supporting computations in good form.
2. Prepare a schedule showing the income statement effect for the year ended December 31, 2007 as a result of the previously mentioned facts. Show supporting computations in good form.
Comprehensive Lee Manufacturing Corporation was incorporated on January 3, 2006. The corporation’s financial statements for its first year’s operations were not examined by a CPA. You have been engaged to examine the financial statements for the year ended December 31, 2007, and your examination is substantially completed.
The corporation’s trial balance at December 31, 2007 appears as follows:
Debit
Credit
Cash
$61,000
Accounts receivable
92,500
Allowance for doubtful accounts
$500
Inventories
38,500
Machinery
75,000
Equipment
29,000
Accumulated depreciation
10,000
Patents
85,000
Leasehold improvements
26,000
Prepaid expenses
10,500
Organization costs
29,000
Goodwill
24,000
Licensing agreement No. 1
50,000
Licensing agreement No. 2
49,000
Accounts payable
147,500
Unearned revenue
12,500
Capital stock
300,000
Retained earnings, January 1, 2007
27,000
Sales
768,500
Cost of goods sold
454,000
Selling and general expenses
173,000
Interest expense
3,500
Extraordinary losses
12,000
Total
$1,239,000
$1,239,000
The following information relates to accounts that may yet require adjustment:
1. Patents for Lee’s manufacturing process were acquired January 2, 2007 at a cost of $68,000. An additional $17,000 was spent in December 2007 to improve machinery covered by the patents and charged to the Patents account. Depreciation on fixed assets has been properly recorded for 2007 in accordance with Lee’s practice, which provides a full year’s depreciation for property on hand June 30 and no depreciation otherwise. Lee uses the straight line method for all depreciation and amortization and amortizes its patents over their legal life.
2. On January 3, 2006 Lee purchased Licensing Agreement No. 1, which was believed to have an indefinite useful life. The balance in the Licensing Agreement No. 1 account includes its purchase price of $48,000 and costs of $2,000 related to the acquisition. On January 1, 2007 Lee purchased Licensing Agreement No. 2, which has a life expectancy of 10 years.
The balance in the Licensing Agreement No. 2 account includes its $48,000 purchase price and $2,000 in acquisition costs, but it has been reduced by a credit of $1,000 for the advance collection of 2008 revenue from the agreement. In late December 2006 an explosion caused a permanent 60% reduction in the expected revenue producing value of Licensing Agreement No. 1, and in January 2008 a flood caused additional damage that rendered the agreement worthless.
3. The balance in the Goodwill account includes (a) $8,000 paid December 30, 2006 for newspaper advertising for the next four years following the payment, and (b) legal costs of $16,000 incurred for Lee’s incorporation on January 3, 2006.
4. The Leasehold Improvements account includes (a) the $15,000 cost of improvements with a total estimated useful life of 12 years, which Lee, as tenant, made to leased premises in January 2006, (b) movable assembly line equipment costing $8,500 that was installed in the leased premises in December 2007, and (c) real estate taxes of $2,500 paid by Lee in 2007, which under the terms of the lease should have been paid by the landlord. Lee paid its rent in full during 2007. A 10 year nonrenewable lease was signed January 3, 2006 for the leased building that Lee used in manufacturing operations.
5. The balance in the Organization Costs account includes costs incurred during the organizational period.
Required
Prepare a worksheet (spreadsheet) to adjust accounts that require adjustment and prepare financial statements. A separate account should be used for the accumulation of each type of amortization and for each prior period adjustment. Formal adjusting journal entries and financial statements are not required. No intangibles are impaired at the end of 2007. Ignore income taxes.
Comprehensive Information concerning Tully Corporation’s intangible assets is as follows:
a. On January 1, 2007 Tully signed an agreement to operate as a franchisee of Rapid Copy Service, Inc., for an initial franchise fee of $85,000. Of this amount, $25,000 was paid when the agreement was signed, and the balance is payable in four annual payments of $15,000 each beginning January 1, 2008. The agreement provides that the down payment is not refundable and no future services are required of the franchisor. The present value at January 2, 2007 of the four annual payments discounted at 14% (the implicit rate for a loan of this type) is $43,700. The agreement also provides that 5% of the revenue from the franchise must be paid to the franchisor annually. Tully’s revenue from the franchise for 2007 was $900,000. Tully estimates the useful life of the franchise to be 10 years.
b. Tully incurred $78,000 of experimental and development costs in its laboratory to develop a patent, which was granted on January 2, 2007. Legal fees and other costs associated with registration of the patent totaled $16,400. Tully estimates that the useful life of the patent will be eight years.
c. A trademark was purchased from Walton Company for $40,000 on July 1, 2004. Expenditures for successful litigation in defense of the trademark totaling $10,000 were paid on July 1, 2007. Tully estimates that the useful life of the trademark will be 20 years from the date of acquisition.
Required
1. Prepare a schedule showing the intangibles section of Tully’s balance sheet at December 31, 2007. Show supporting computations in good form.
2. Prepare a schedule showing all expenses resulting from the transactions that would appear on Tully’s income statement for the year ended December 31, 2007. Show supporting computations in good form.
Comprehensive Bryant Corporation was incorporated on December 1, 2006 and began operations one week later. Before closing the books for the fiscal year ended November 30, 2007, Bryant’s controller prepared the following financial statements:
Balance Sheet November 30, 2007
Assets
Liabilities and Stockholders’ Equity
Current assets
Current liabilities
Cash
$180,000
Accounts payable and accrued expenses
$592,000
Accounts receivable
480,000
Income taxes payable
168,000
Less: Allowance for doubtful accounts
59,000
Total current liabilities
$760,000
Inventories
430,000
Stockholders’ equity
Prepaid insurance
15,000
Common stock, $10 par value
$400,000
Total current assets
$1,046,000
Retained earnings
392,000
Property, plant, and equipment
426,000
Total stockholders’ equity
$792,000
Less: Accumulated depreciation
40,000
Total Liabilities and Stockholders’ Equity
$1,552,000
Research and development costs
120,000
Total Assets
$1,552,000
Statement of Income For Year Ended November 30, 2007
Net sales
$2,950,000
Operating expenses
Cost of sales
$1,670,000
Selling and administrative
650,000
Depreciation
40,000
Research and development
30,000
Total expenses
$2,390,000
Income before income taxes
$560,000
Income tax expense
168,000
Net Income
$392,000
Bryant Corporation is in the process of negotiating a loan for expansion purposes, and the bank has requested audited financial statements. During the course of the audit, the following additional information was obtained:
1. Included in selling and administrative expenses were $5,000 of costs incurred on software being developed for sale to others. The technological feasibility of the software has been established.
2. Based on an aging of the accounts receivable as of November 30, 2007, it was estimated that $36,000 of the receivables will be uncollectible.
3. Inventories at November 30, 2007 did not include work in process inventory costing $12,000 sent to an outside processor on November 26, 2007.
4. A $3,000 insurance premium paid on November 30, 2007 on a policy expiring one year later was charged to insurance expense.
5. Bryant adopted a pension plan on June 1, 2007 for eligible employees to be administered by a trustee. Based upon actuarial computations, the first 12 month’s accrued pension plan expense was estimated at $45,000.
6. On June 1, 2007 a production machine purchased for $24,000 was charged to repairs and maintenance. Bryant depreciates machines of this type on the straight line method over a five year life, with no salvage value, for financial and tax purposes.
7. Research and development costs of $150,000 were incurred in the development of a patent that Bryant expects to be granted during the fiscal year ending November 30, 2008. Bryant initiated a five year amortization of the $150,000 total cost during the fiscal year ended November 30, 2007.
8. During December 2007 a competitor company filed suit against Bryant for patent infringement claiming $200,000 in damages. Bryant’s legal counsel believes that an unfavorable outcome is probable. A reasonable accrual based on an estimate of the court’s award to the plaintiff is $50,000.
9. The 30% effective tax rate was determined to be appropriate for calculating the provision for income taxes for the fiscal year ended November 30, 2007. Ignore computation of deferred portion of income taxes.
Required
1. Prepare the necessary correcting entries.
2. Prepare a corrected balance sheet of Bryant Corporation as of November 30, 2007 and a corrected statement of income for the year ended November 30, 2007.
Goodwill The Elm Company is considering purchasing the EKC Company. The balance sheet of the EKC Company at December 31, 2007 is as follows:
Cash
$50,000
Current liabilities
$60,000
Accounts receivable
70,000
Bonds payable
200,000
Inventory
120,000
Common stock
300,000
Property, plant, and equipment (net)
600,000
Retained earnings
280,000
$840,000
$840,000
At December 31, 2007 the Elm Company discovered the following about the EKC Company:
1. No allowance for uncollectible accounts has been established. An allowance of $5,000 is considered appropriate.
2. The LIFO inventory method has been used. The FIFO inventory method would be used if EKC were purchased by Elm. The FIFO inventory valuation of the December 31, 2007 ending inventory would be $180,000.
3. The fair value of the property, plant, and equipment (net) is $730,000.
4. The company has an unrecorded patent that is worth $120,000.
5. The book values of the current liabilities and bonds payable are the same as their market values.
Required
Compute the value of the goodwill if the Elm Company pays $1,350,000 for EKC.
Patents In examining the books of Samson Manufacturing Company, you find on the December 31, 2007 balance sheet the item, “Costs of patents, $308,440.” Referring to the ledger accounts, you note the following items regarding one patent acquired in 2004:
2004
Legal costs incurred in defending the
validity of the patent
$3,500
2006
Legal costs in prosecuting an
infringement suit
7,900
2006
Legal costs (additional expenses) in
the infringement suit
1,500
2006
Cost of improvements (unpatented)
on the patented device
4,800
There are no credits in the account, and the company has not recorded any amortization for any of the patents. There are three other patents issued in 2001, 2003, and 2004; all were developed by the staff of the client. The patented articles are presently very marketable, but are estimated to be in demand only for the next few years.
Required
Discuss the items included in the Patent account from an accounting standpoint.
Patent and R&D Clonal, Inc., a biotechnology company, developed and patented a diagnostic product called Trouver. Clonal purchased some research equipment to be used exclusively for Trouver and other research equipment to be used on Trouver and subsequent research projects. Clonal defeated a legal challenge to its Trouver patent and began production and marketing operations for the product. Clonal allocated its corporate headquarters’ costs to its research division as a percentage of the division’s salaries.
Required
1. Explain how Clonal should report the equipment purchased for Trouver in its income statements and balance sheets.
2. a. Describe the matching principle.
b. Describe the accounting treatment of research and development costs and consider whether this is consistent with the matching principle. What is the justification for the accounting treatment of research and development costs?
3. Explain how Clonal should classify its corporate headquarters’ costs allocated to the research division in its income statement.
4. Explain how Clonal should report the legal costs incurred in defending Trouver’s patent in its statement of cash flows.
Calculate consolidated balance sheet amounts with goodwill and noncontrolling interest
Pob Corporation acquired an 80 percent interest in Sof Corporation on January 2, 2011, for $1,400,000. On this date the capital stock and retained earnings of the two companies were as follows (in thousands):
Pob
Sof
Capital stock
$3,600
$1,000
Retained earnings
1,600
200
The assets and liabilities of Sof were stated at fair values equal to book values when Pob acquired its 80 percent interest. Pob uses the equity method to account for its investment in Sof.
Net income and dividends for 2011 for the affiliated companies were as follows:
Pob
Sof
Net income
$600
$180
Dividends declared
360
100
Dividends payable December 31, 2011
180
50
REQUIRED: Calculate the amounts at which the following items should appear in the consolidated balance sheet on December 31, 2011.
Prepare stockholders’ equity section of consolidated balance sheet one year after acquisition
Pas and Sal Corporations’ balance sheets at December 31, 2010, are summarized as follows (in thousands):
Pas
Sal
Cash
$510
$120
Other assets
400
350
Total assets
$910
$470
Liabilities
$140
$ 70
Capital stock, par $10
600
350
Additional paid in capital
100
30
Retained earnings
70
20
Total equities
$910
$470
Pas acquired 80 percent of the voting stock of Sal on January 2, 2011, at a cost of $320,000. The fair values of Sal’s net assets were equal to book values on January 2, 2011. During 2011, Pas reported earnings of $110,000, including income from Sal of $32,000, and paid dividends of $50,000. Sal’s earnings for 2011 were $40,000 and its dividends were $30,000.
REQUIRED : Prepare the stockholders’ equity section of the December 31, 2011, consolidated balance sheet for Pas Corporation and Subsidiary.
Prepare consolidated income statement three years after acquisition
Comparative income statements of Pek Corporation and Slo Corporation for the year ended December 31, 2013, are as follows (in thousands):
Pek
Slo
Sales
$3,200
$1,000
Income from Slo
261
—
Total revenue
3,461
1,000
Less: Cost of goods
1,800
400
Operating expenses
800
300
Total expenses
2,600
700
Net income
$ 861
$ 300
ADDITIONAL INFORMATION
1. Slo is a 90 percent owned subsidiary of Pek, acquired by Pek for $1,620,000 on January 1, 2011, when Slo’s stockholders’ equity at book value was $1,400,000.
2. The excess of the cost of Pek’s investment in Slo over book value acquired was allocated $60,000 to undervalued inventories that were sold in 2011, $40,000 to undervalued equipment with a four year remaining useful life, and the remainder to goodwill.
REQUIRED : Prepare a consolidated income statement for Pek Corporation and Subsidiary for the year ended December 31, 2013.
Prepare a consolidated balance sheet at acquisition and compute consolidated net income one year later
On December 31, 2011, Pen Corporation purchased 80 percent of the stock of Sut Company at book value. The data reported on their separate balance sheets immediately after the acquisition follow. At December 31, 2011, Pen Corporation owes Sut $10,000 on accounts payable. (All amounts are in thousands.)
Pen
Sut
Assets
Cash
$ 64
$ 36
Accounts receivable
90
68
Inventories
286
112
Investment in Sut
400
350
Equipment—net
760
$566
$1,600
$ 66
Liabilities and Stockholders’ Equity
$ 80
300
Accounts payable
920
200
Common stock, $20 par
600
$566
Retained earnings
$1,600
REQUIRED
1. Prepare a consolidated balance sheet for Pen Corporation and Subsidiary at December 31, 2011.
2. Compute consolidated net income for 2012 assuming that Pen Corporation reported separate income of $340,000 and Sut Company reported net income of $180,000. (Separate incomes does not include income from the investment in Sut.)
Allocation schedule for fair value/book value differential and consolidated balance sheet at acquisition
Par Corporation acquired 70 percent of the outstanding common stock of Set Corporation on January 1, 2011, for $350,000 cash. Immediately after this acquisition the balance sheet information for the two companies was as follows (in thousands):
Set
Par Book Value
Book Value
Fair Value
Assets
Cash
$ 70
$ 40
$ 40
Receivables—net
160
60
60
Inventories
140
60
100
Land
200
100
120
Buildings—net
220
140
180
Equipment—net
160
80
60
Investment in Set
350
—
—
Total assets
$1,300
$480
$560
Liabilities and Stockholders’ Equity
Accounts payable
$ 180
$160
$160
Other liabilities
20
100
80
Capital stock, $20 par
1,000
200
Retained earnings
100
20
Total equities
$1,300
$480
REQUIRED
1. Prepare a schedule to allocate the difference between the fair value of the investment in Set and the book value of the interest to identifiable and unidentifiable net assets.
2. Prepare a consolidated balance sheet for Par Corporation and Subsidiary at January 1, 2011.
Prepare allocation schedule with book value greater than fair value
PJ Corporation pays $5,400,000 for an 80 percent interest in Sof Corporation on January 1, 2011, at which time the book value and fair value of Sof’s net assets are as follows (in thousands):
Book Value
Fair Value
Current assets
$2,000
$3,000
Equipment—net
4,000
6,000
Other plant assets—net
2,000
2,000
Liabilities
(3,000)
(3,000)
Net assets
$5,000
$8,000
REQUIRED: Prepare a schedule to allocate the fair value/book value differentials to Sof’s net assets.
Given separate and consolidated balance sheets, reconstruct the schedule to allocate the fair value/book value differential
Pam Corporation purchased a block of Sap Company common stock for $520,000 cash on January 1, 2011. Separate company and consolidated balance sheets prepared immediately after the acquisition are summarized as follows (in thousands):
Pam Corporation and Subsidiary Consolidated Balance Sheet at January 1, 2011
Pam
Sap
Consolidated
Assets
Current assets
$ 380
$200
$ 580
Investment in Sap
520
—
—
Plant assets—net
1,100
400
1,520
Goodwill
—
—
110
Total assets
$2,000
$600
$2,210
Equities
Liabilities
$ 800
$ 80
$ 880
Capital stock, $20 par
1,000
400
1,000
Retained earnings
200
120
200
Noncontrolling interest
—
—
130
Total equities
$2,000
$600
$2,210
REQUIRED: Reconstruct the schedule to allocate the fair value/book value differential from Pam’s investment in Sap.
Prepare a consolidated balance sheet one year after acquisition
Adjusted trial balances for Pal and Sor Corporations at December 31, 2011, are as follows (in thousands):
Pal
Sor
Debits
$ 480
$ 200
Current assets
1,000
600
Plant assets—net
840
—
Investment in Sor
600
600
Cost of sales
200
100
Other expenses
100
—
Dividends
$3,220
$1,500
Credits
$ 900
$ 420
Liabilities
600
100
Capital stock
680
180
Retained earnings
1,000
800
Sales
40
—
Income from Sor
$3,220
$1,500
Pal purchased all the stock of Sor for $800,000 cash on January 1, 2011, when Sor’s stockholders’ equity consisted of $100,000 capital stock and $180,000 retained earnings. Sor’s assets and liabilities were fairly valued except for inventory that was undervalued by $40,000 and sold in 2011, and plant assets that were undervalued by $80,000 and had a remaining useful life of four years from the date of the acquisition.
REQUIRED: Prepare a consolidated balance sheet for Pal Corporation and Subsidiary at December 31, 2011.
Consolidated balance sheet workpapers with goodwill and dividends
Per Corporation paid $900,000 cash for 90 percent of Sim Corporation’s common stock on January 1, 2011, when Sim had $600,000 capital stock and $200,000 retained earnings. The book values of Sim’s assets and liabilities were equal to fair values. During 2011, Sim reported net income of $40,000 and declared $20,000 in dividends on December 31. Balance sheets for Per and Sim at December 31, 2011, are as follows (in thousands):
Per
Sim
Assets
Cash
$ 84
$ 40
Receivables—net
100
260
Inventories
700
100
Land
300
400
Equipment—net
1,200
200
Investment in Sim
918
—
$3,302
$1,000
Equities
$ 820
$ 160
Accounts payable
120
20
Dividends payable
2,000
600
Capital stock
362
220
Retained earnings
$3,302
$1,000
REQUIRED : Prepare consolidated balance sheet work papers for Per Corporation and Subsidiary for December 31, 2011.
Consolidated balance sheet work papers (excess allocated to equipment and goodwill)
Pan Corporation purchased 90 percent of Son Corporation’s outstanding stock for $7,200,000 cash on January 1, 2011, when Son’s stockholders’ equity consisted of $4,000,000 capital stock and $1,400,000 retained earnings. The excess was allocated $1,600,000 to undervalued equipment with an eight year remaining useful life and $1,000,000 to goodwill. Son’s net income and dividends for 2011 were $1,000,000 and $400,000, respectively. Comparative balance sheet data for Pan and Son Corporations at December 31, 2011, are as follows (in thousands):
Pan
Son
Cash
$ 600
$ 400
Receivables—net
1,200
800
Dividends receivable
180
—
Inventory
1,400
1,200
Land
1,200
1,400
Buildings—net
4,000
2,000
Equipment—net
3,000
1,600
Investment in Son
7,560
—
$19,140
$7,400
Accounts payable
$ 600
$1,200
Dividends payable
1,000
200
Capital stock
14,000
4,000
Retained earnings
3,540
2,000
$19,140
$7,400
REQUIRED: Prepare consolidated balance sheet work papers for Pan Corporation and Subsidiary on December 31, 2011.
Calculate investment cost and account balances from a consolidated balance sheet four years after acquisition
The consolidated balance sheet of Pan Corporation and its 80 percent subsidiary, Sun Corporation, contains the following items on December 31, 2015 (in thousands):
Cash
$ 40
Inventories
384
Other current assets
140
Plant assets—net
540
Goodwill
120
$1,224
Liabilities
$ 240
Capital stock
800
Retained earnings
60
Noncontrolling interests
124
$1,224
Pan Corporation uses the equity method of accounting for its investment in Sun. Sun Corporation stock was acquired by Pan on January 1, 2011, when Sun’s capital stock was $400,000 and its retained earnings were $40,000. The fair values of Sun’s net assets were equal to book values on January 1, 2011, and there have been no changes in outstanding stock of either Pan or Sun since January 1, 2011.
REQUIRED: Determine the following:
1. The purchase price of Pan’s investment in Sun stock on January 1, 2011.
2. The total of Sun’s stockholders’ equity on December 31, 2015.
3. The balance of Pan’s Investment in Sun account at December 31, 2015.
4. The balances of Pan’s Retained earnings and Capital stock accounts on December 31, 2015.
Consolidated balance sheet work papers (fair value/book value differentials and noncontrolling interest)
Pop Corporation acquired a 70 percent interest in Stu Corporation on January 1, 2011, for $1,400,000, when Stu’s stockholders’ equity consisted of $1,000,000 capital stock and $600,000 retained earnings. On this date, the book value of Stu’s assets and liabilities was equal to the fair value, except for inventories that were undervalued by $40,000 and sold in 2011, and plant ssets that were undervalued by $160,000 and had a remaining useful life of eight years from January 1. Stu’s net income and dividends for 2011 were $140,000 and $20,000, respectively.
Separate company balance sheet information for Pop and Stu Corporations at December 31, 2011, follows (in thousands):
Pop
Stu
Cash
$ 120
$ 40
Accounts receivable—customers
880
400
Accounts receivable from Pop
—
20
Dividends receivable
14
—
Inventories
1,000
640
Land
200
300
Plant assets—net
1,400
700
Investment in Stu
1,442
—
$5,056
$2,100
Accounts payable—suppliers
$ 600
$ 160
Accounts payable to Stu
20
—
Dividends payable
80
20
Long term debt
1,200
200
Capital stock
2,000
1,000
Retained earnings
1,156
720
$5,056
$2,100
REQUIRED: Prepare consolidated balance sheet work papers for Pop Corporation and Subsidiary at December 31, 2011.
Pan Corporation purchased 80 percent of the outstanding voting common stock of Sal Corporation on January 2, 2011, for $600,000 cash. Sal’s balance sheets on this date and on December 31, 2011, are as follows:
SAL CORPORATION BALANCE SHEETS
January 2
December 31
Inventory
$100,000
$ 40,000
Other current assets
100,000
160,000
Plant assets—net
400,000
440,000
Total assets
$600,000
$640,000
Liabilities
$100,000
$120,000
Capital stock
300,000
300,000
Retained earnings
200,000
220,000
Total equities
$600,000
$640,000
ADDITIONAL INFORMATION
1. Pan uses the equity method of accounting for its investment in Sal.
2. Sal’s 2011 net income and dividends were $140,000 and $120,000, respectively.
3. Sal’s inventory, which was sold in 2011, was undervalued by $25,000 at January 2, 2011.
REQUIRED
1. What is Pan’s income from Sal for 2011?
2. What is the noncontrolling interest share for 2011?
3. What is the total noncontrolling interest at December 31, 2011?
4. What will be the balance of Pan’s Investment in Sal account at December 31, 2011, if investment income from Sal is $100,000? Ignore your answer to 1.
5. What is consolidated net income for Pan Corporation and Subsidiary if Pan’s net income for 2011 is $360,400? (Assume investment income from subsidiary is $100,000, and it is included in the $360,400.)
Peg Corporation owns a 70 percent interest in San Corporation, acquired several years ago at book value. On December 31, 2011, San mailed a check for $20,000 to Peg in part payment of a $40,000 account with Peg. Peg had not received the check when its books were closed on December 31. Peg Corporation had accounts receivable of $300,000 (including the $40,000 from San), and San had accounts receivable at $440,000 at year end. In the consolidated balance sheet of Peg Corporation and Subsidiary at December 31, 2011, accounts receivable will be shown at what amount?
Use the following information in answering questions 2 and 3.
Pim Corporation purchased a 70 percent interest in Sar Corporation on January 1, 2011, for $28,000, when Sar’s stockholders’ equity consisted of $6,000 common stock, $20,000 additional paid in capital, and $4,000 retained earnings. Income and dividend information for Sar is as follows:
2011
2012
2013
Net income (or loss)
$2,000
$400
$(1,000)
Dividends
800
200
—
2. Pim reported income of $24,000 for 2013. This does not include income from Sar. What is consolidated net income for 2013?
3. What is Pim’s Investment in Sar balance at December 31, 2013, under the equity method?
Equity method The stockholder’s equity accounts of Pen Corporation and Sin Corporation at December 31, 2010, were as follows (in thousands):
Pen Corporation
Sin Corporation
Capital stock
$1,200
$500
Retained earnings
500
100
Total
$1,700
$600
On January 1, 2011, Pen Corporation acquired an 80 percent interest in Sin Corporation for $580,000. The excess fair value was due to Sin Corporation’s equipment being undervalued by $50,000 and unrecorded patents. The undervalued equipment had a 5 year remaining useful life when Pen acquired its interest. Patents are amortized over 10 years.
The income and dividends of Pen and Sin are as follows:
Pen
Sin
2011
2012
2011
2012
Net income
$340
$350
$120
$150
Dividends
240
250
80
90
REQUIRED: Assume that Pen Corporation uses the equity method of accounting for its investment in Sin.
1. Determine consolidated net income for Pen Corporation and Subsidiary for 2011.
2. Compute the balance of Pen’s Investment in Sin account at December 31, 2011.
3. Compute noncontrolling interest share for 2011.
4. Compute noncontrolling interest at December 31, 2012.
Prepare cash flows from operating activities section
Information needed to prepare the Cash Flow from Operating Activities section of Par Corporation’s consolidated statement of cash flows is included in the following list:
Amortization of patents
$ 16,000
Consolidated net income
150,000
Decrease in accounts payable
20,000
Depreciation expense
120,000
Increase in accounts receivable
105,000
Increase in inventories
45,000
Loss on sale of land
100,000
Noncontrolling interest share
50,000
Noncontrolling interest dividends
24,000
Undistributed income of equity investees
5,000
Required: Prepare the Cash Flows from Operating Activities section of Par’s consolidated statement of cash flows under the indirect method.
Prepare cash flows from operating activities section
The information needed to prepare the Cash Flow from Operating Activities section of Pro Corporation’s consolidated statement of cash flows is included in the following list:
Cash received from customers
$322,500
Cash paid to suppliers
182,500
Cash paid to employees
27,000
Cash paid for other operating items
23,500
Cash paid for interest expense
12,000
Cash proceeds from sale of land
60,000
Noncontrolling interest dividends
10,000
Dividends received from equity investees
7,000
Required: Prepare the Cash Flows from Operating Activities section of Pro’s consolidated statement of cash flows under the direct method.
The Plaza Company originated late in 2006 and began operations on January 2, 2007. Plaza is engaged in conducting market research studies on behalf of manufacturers. Prior to the start of operations, the following costs were incurred:
Attorney’s fees in connection with organization of Plaza
$4,000
Improvements to leased offices prior to occupancy
7,000
Meetings of incorporators, state filing fees and other organization expenses
5,000
$16,000
What is the amount of expense recognized for 2007?
Journal entries (investment in previously unissued stock)
The stockholders’ equity of Tal Corporation at December 31, 2011, was $380,000, consisting of the following (in thousands):
Capital stock, $10 par (24,000 shares outstanding)
$240
Additional paid in capital
60
Retained earnings
80
Total stockholders’ equity
$380
On January 1, 2012, Tal Corporation, which was in a tight working capital position, sold 12,000 shares of previously unissued stock to Riv Corporation for $250,000. All of Tal’s identifiable assets and liabilities were recorded at fair values on this date except for a building with a 10 year remaining useful life that was undervalued by $60,000. During 2012, Tal Corporation reported net income of $120,000 and paid dividends of $90,000.
REQUIRED : Prepare all journal entries necessary for Riv Corporation to account for its investment in Tal for 2012.
Prepare journal entries and income statement, and determine investment account balance
BIP Corporation paid $390,000 for a 30 percent interest in Cow Corporation on December 31, 2011, when Cow’s equity consisted of $1,000,000 capital stock and $400,000 retained earnings. The price paid by BIP reflected the fact that Cow’s inventory (on a FIFO basis) was overvalued by $100,000. The overvalued inventory items were sold in 2012. During 2012 Cow paid dividends of $200,000 and reported income as follows (in thousands):
Income before extraordinary items
$340
Extraordinary loss (net of tax effect)
40
Net income
$300
REQUIRED
1. Prepare all journal entries necessary to account for BIP’s investment in Cow for 2012.
2. Determine the correct balance of BIP’s Investment in Cow account at December 31, 2012.
3. Assume that BIP’s net income for 2012 consists of $2,000,000 sales, $1,400,000 expenses, and its investment income from Cow. Prepare an income statement for BIP Corporation for 2012.
Calculate income and investment account balance (investee has preferred stock)
Val Corporation paid $290,000 for 40 percent of the outstanding common stock of Wat Corporation on January 2, 2012. During 2012, Wat paid dividends of $48,000 and reported net income of $108,000. A summary of Wat’s stockholders’ equity at December 31, 2011 and 2012 follows (in thousands):
December 31,
2011
2012
8% cumulative preferred stock, $100 par
$100
$100
Common stock, $10 par
300
300
Premium on preferred stock
10
10
Other paid in capital
90
90
Retained earnings
100
160
Total stockholders’ equity
$600
$660
REQUIRED: Calculate Val Corporation’s income from Wat for 2012 and its Investment in Wat account balance at December 31, 2012. Assume the book value of all assets and liabilities equals the fair value.
Computations for a midyear purchase (investee has an extraordinary gain)
Rit Corporation paid $1,372,000 for a 30 percent interest in Tel Corporation’s outstanding voting stock on April 1, 2011. At December 31, 2010, Tel had net assets of $4,000,000 and only common stock outstanding. During 2011, Tel declared and paid dividends of $80,000 each quarter on March 15, June 15, September 15, and December 15 ($320,000 in total). At April 1, 2011, the book value of assets and liabilities equals the fair value. Tel’s 2011 income was reported as follows:
Income before extraordinary item
$480,000
Extraordinary gain, December 2011
160,000
Net income
$640,000
REQUIRED: Determine the following items for Rit:
1. Goodwill from the investment in Tel
2. Income from Tel for 2011
3. Investment in Tel account balance at December 31, 2011
4. Rit’s equity in Tel’s net assets at December 31, 2011
5. The amount of extraordinary gain that Rit will show on its 2011 income statement
Computations for investee when excess allocated to inventories, building, and goodwill
Vat Company acquired a 30 percent interest in the voting stock of Zel Company for $331,000 on January 1, 2011, when Zel’s stockholders’ equity consisted of capital stock of $600,000 and retained earnings of $400,000. At the time of Vat’s investment, Zel’s assets and liabilities were recorded at their fair values, except for inventories that were undervalued by $30,000 and a building with a 10 year remaining useful life that was overvalued by $60,000. Zel has income for 2011 of $100,000 and pays dividends of $50,000. Assume undervalued inventories are sold in 2011.
REQUIRED
1. Compute Vat’s income from Zel for 2011.
2. What is the balance of Vat’s Investment in Zel account at December 31, 2011?
3. What is Vat’s share of Zel’s recorded net assets at December 31, 2011?
Journal entries for midyear investment (excess allocated to land, equipment, and goodwill)
Jack Corporation paid $380,000 for 40 percent of Jill Corporation’s outstanding voting common stock on July 1, 2011. Jill’s stockholders’ equity on January 1, 2011, was $500,000, consisting of $300,000 capital stock and $200,000 retained earnings. During 2011, Jill had net income of $100,000, and on November 1, 2011, Jill declared dividends of $50,000. Jill’s assets and liabilities were stated at fair values on July 1, 2011, except for land that was undervalued by $30,000 and equipment with a five year remaining useful life that was undervalued by $50,000.
REQUIRED: Prepare all the journal entries (other than closing entries) on the books of Jack Corporation during 2011 to account for the investment in Jill.
Prepare an allocation schedule, compute income and the investment balance
Quake Corporation paid $1,680,000 for a 30 percent interest in Tremor Corporation’s outstanding voting stock on January 1, 2011. The book values and fair values of Tremor’s assets and liabilities on January 1, along with amortization data, are as follows (in thousands):
Book Value
Fair Value
Cash
$ 400
$ 400
Accounts receivable—net
700
700
Inventories (sold in 2011)
1,000
1,200
Other current assets
200
200
Land
900
1,700
Buildings—net (10 year remaining life)
1,500
2,000
Equipment—net (7 year remaining life)
1,200
500
Total assets
$5,900
$6,700
Accounts payable
$ 800
$ 800
Other current liabilities
200
200
Bonds payable (due January 1, 2016)
1,000
1,100
Capital stock, $10 par
3,000
Retained earnings
900
Total equities
$5,900
Tremor Corporation reported net income of $1,200,000 for 2011 and paid dividends of $600,000.
REQUIRED
1. Prepare a schedule to allocate the investment fair values/book value differentials relating to Quake’s investment in Tremor.
2. Calculate Quake’s income from Tremor for 2011.
3. Determine the balance of Quake’s Investment in Tremor account at December 31, 2011.
Partial income statement with an extraordinary item
Dil Corporation acquired 30 percent of the voting stock of Lar Company at book value on July 1, 2011. During 2013, Lar paid dividends of $160,000 and reported income of $500,000 as follows:
Income before extraordinary item
$300,000
Extraordinary gain (tax credit from
operating loss carryforward)
200,000
Net income
$500,000
REQUIRED: Show how Dil’s income from Lar should be reported for 2013 by means of a partial income statement for Dil Corporation.
Computations and journal entries with excess of book value over fair value
Jen Corporation became a subsidiary of Laura Corporation on July 1, 2011, when Laura paid $1,980,000 cash for 90 percent of Jen’s outstanding common stock. The price paid by Laura reflected the fact that Jen’s inventories were undervalued by $50,000 and its plant assets were overvalued by $500,000. Jen sold the undervalued inventory items during 2011 but continues to hold the overvalued plant assets that had a remaining useful life of nine years from July 1, 2011.
During the years 2011 through 2013, Jen’s paid in capital consisted of $1,500,000 capital stock and $500,000 additional paid in capital. Jen’s retained earnings statements for 2011, 2012, and 2013 were as follows (in thousands):
Year Ended December 31, 2011
Year Ended December 31, 2012
Year Ended December 31, 2013
Retained earnings January 1
$525
$600
$700
Add: Net income
250
300
200
Deduct: Dividends (declared
in December)
(175 )
(200 )
(150 )
Retained earnings December 31
$600
$700
$750
Laura uses the equity method in accounting for its investment in Jen.
REQUIRED
1. Compute Laura Corporation’s income from its investment in Jen for 2011.
2. Determine the balance of Laura Corporation’s Investment in Jen account at December 31, 2012.
3. Prepare the journal entries for Laura to account for its investment in Jen for 2013.
Prepare allocation schedules under different stock price assumptions (bargain purchase)
Tricia Corporation exchanged 40,000 previously unissued no par common shares for a 40 percent interest in Lisa Corporation on January 1, 2011. The assets and liabilities of Lisa on that date (after the exchange) were as follows (in thousands):
Book Value
Fair Value
Cash
$ 200
$ 200
Accounts receivable—net
400
400
Inventories
1,000
1,200
Land
200
600
Buildings—net
1,200
800
Equipment—net
800
1,000
Total assets
$3,800
$4,200
Liabilities
$1,800
$1,800
Capital stock
1,400
Retained earnings
600
Total equities
$3,800
The direct cost of issuing the shares of stock was $20,000, and other direct costs of combination were $80,000.
REQUIRED
1. Assume that the January 1, 2011, market price for Tricia’s shares is $24 per share. Prepare a schedule to allocate the investment cost/book value differentials.
2. Assume that the January 1, 2011, market price for Tricia’s shares is $16 per share. Prepare a schedule to allocate the investment cost/book value differentials. Assume that other direct costs were $0.
Pat Corporation purchased 40 percent of the voting stock of Sue Corporation on July 1, 2011, for $300,000. On that date, Sue’s stockholders’ equity consisted of capital stock of $500,000, retained earnings of $150,000, and current earnings (just half of 2011) of $50,000. Income is earned proportionately throughout each year.
The Investment in Sue account of Pat Corporation and the retained earnings account of Sue Corporation for 2011 through 2014 are summarized as follows (in thousands):
RETAINED EARNINGS (SUE)
Dividends November 1, 2011
$40
Balance January 1, 2011
$150
Dividends November 1, 2012
40
Earnings 2011
100
Dividends November 1, 2013
50
Earnings 2012
80
Dividends November 1, 2014
50
Earnings 2013
130
Earnings 2014
120
INVESTMENT IN SUE (PAT)
Investment July 1, 2011 40%
$300
Dividends 2011
$16
Income 2011
40
Dividends 2012
16
Income 2012
32
Dividends 2013
20
Income 2013
52
Dividends 2014
20
Income 2014
48
REQUIRED
1. Determine the correct amount of the investment in Sue that should appear in Pat’s December 31, 2014, balance sheet. Assume any difference between investment cost and book value acquired is due to a building with a 10 year remaining life.
2. Prepare any journal entry (entries) on Pat’s books to bring the Investment in Sue account up to date on December 31, 2014, assuming that the books have not been closed at year end 2014.
Allocation schedule and computations (excess cost over fair value)
John Corporation acquired a 70 percent interest in Jojo Corporation on April 1, 2011, when it purchased 14,000 of Jojo’s 20,000 outstanding shares in the open market at $13 per share. Additional costs of acquiring the shares consisted of $10,000 legal and consulting fees. Jojo Corporation’s balance sheets on January 1 and April 1, 2011, are summarized as follows (in thousands):
January 1 (per books)
April 1 (per books)
April 1 (fair values)
Cash
$ 40
$ 45
$ 45
Inventories
35
60
50
Other current assets
25
20
20
Land
30
30
50
Equipment—net
100
95
135
Total assets
$230
$250
$300
Accounts payable
$ 45
$ 40
$ 40
Other liabilities
15
20
20
Capital stock, $5 par
100
100
Retained earnings January 1
70
70
Current earnings
20
Total liabilities and equity
$230
$250
ADDITIONAL INFORMATION
1. The overvalued inventory items were sold in September 2011.
2. The undervalued items of equipment had a remaining useful life of four years on April 1, 2011.
3. Jojo’s net income for 2011 was $80,000 ($60,000 from April to December 31, 2011).
4. On December 1, 2011, Jojo declared dividends of $2 per share, payable on January 10, 2012.
5. Any unidentified assets of Jojo are not amortized.
REQUIRED
1. Prepare a schedule showing how the difference between John’s investment cost and book value acquired should be allocated to identifiable and/or unidentifiable assets.
2. Calculate John’s investment income from Jojo for 2011.
3. Determine the correct balance of John’s Investment in Jojo account at December 31, 2011.
Coca Cola lists significant equity method investments on its balance sheet. Visit Coca Cola’s web site and obtain the 2009 annual report. Review Coke’s 2009 annual report and answer the following questions:
1. What are Coke’s major equity method investments? Prepare a brief summary.
2. What amount of income does Coke report on these investments, and how significant are those amounts to Coke’s overall profitability?
3. Compare and summarize reported income amounts between 2008 and 2009. Can you account for the change?
4. What type of intercompany transactions does Coke engage in with its equity method affiliates? You may focus on transactions with the largest equity affiliate—Coca Cola Enterprises, Inc.
5. Can you explain how Coke recognizes gains and losses when its equity method affiliates sell shares of common stock to the public?
Visit the Ford Motor Company Web site and review Ford’s 2009 annual report. You will note that Ford makes numerous investments in other companies. Prepare a brief summary of intercompany investments included by Ford (you will want to look at the financial statements and the notes).
a. Does Ford report any investments carried as trading securities, available for sale securities, or held to maturity securities? If so, summarize their significance to both the balance sheet and income statement.
b. Does Ford report any investments carried under the equity method? If so, summarize their significance to both the balance sheet and income statement. What additional disclosures, if any, are made concerning equity method investments?
c. Did Ford realize any gains or losses from security sales during 2009?
d. Has Ford tested for goodwill impairment during 2009? Did Ford experience an impairment during 2009?
Cobb Company’s current receivables from affiliated companies at December 31, 2011, are (1) a $75,000 cash advance to Hill Corporation (Cobb owns 30 percent of the voting stock of Hill and accounts for the investment by the equity method), (2) a receivable of $260,000 from Vick Corporation for administrative and selling services (Vick is 100 percent owned by Cobb and is included in Cobb’s consolidated financial statements), and (3) a receivable of $200,000 from Ward Corporation for merchandise sales on credit (Ward is a 90 percent owned, unconsolidated subsidiary of Cobb accounted for by the equity method). In the current assets section of its December 31, 2011, consolidated balance sheet, Cobb should report accounts receivable from investees in the amount of:
Pop Corporation has several subsidiaries that are included in its consolidated financial statements. In its December 31, 2011, trial balance, Pop had the following intercompany balances before eliminations:
Debit
Credit
Current receivable due from Sin Co.
$ 64,000
Noncurrent receivable from Sin
228,000
Cash advance from Sun Corp.
12,000
Cash advance from Sit Co.
$ 30,000
Intercompany payable to Sit
202,000
In its December 31, 2011, consolidated balance sheet, what amount should Pop report as intercompany receivables?
Pin Corporation paid $1,800,000 for a 90 percent interest in San Corporation on January 1, 2011; San’s total book value was $1,800,000. The excess was allocated as follows: $60,000 to undervalued equipment with a three year remaining useful life and $140,000 to goodwill. The income statements of Pin and San for 2011 are summarized as follows (in thousands):
Pin
San
Sales
$4,000
$1,600
Income from San
180
Cost of sales
(2,000)
(800)
Depreciation expense
(400)
(240)
Other expenses
(800)
(360)
Net income
$ 980
$ 200
REQUIRED
1. Calculate the goodwill that should appear in the consolidated balance sheet of Pin and Subsidiary at December 31, 2011.
On December 31, 2011, the separate company financial statements for Pan Corporation and its 70 percent owned subsidiary, Sad Corporation, had the following account balances related to dividends (in thousands):
Pan
Sad
Dividends for 2011
$1,200
$800
Dividends payable at December 31, 2011
600
200
REQUIRED
1. At what amount will dividends be shown in the consolidated retained earnings statement?
2. At what amount should dividends payable be shown in the consolidated balance sheet?
Prepare consolidated income statements with and without fair value/book value differentials
Summary income statement information for Pas Corporation and its 70 percent owned subsidiary, Sit, for the year 2012 is as follows (in thousands):
Pas
Sit
Sales
$2,000
$ 800
Income from Sit
98
—
Cost of sales
(1,200)
(400)
Depreciation expense
(100)
(80)
Other expenses
(398)
(180)
Net income
$ 400
$ 140
REQUIRED:
1. Assume that Pas acquired its 70 percent interest in Sit at book value on January 1, 2011, when the fair value of Sits’ assets and liabilities were equal to recorded book values. There were no intercompany transactions during 2011 and 2012. Prepare a consolidated income statement for Pas Corporation and Subsidiary for 2012.
2. Assume that Pas acquired its 70 percent interest in Sit on January 1, 2011, for $280,000. $60,000 was allocated to a reduction of overvalued equipment with a five year remaining useful life and the remainder was allocated to goodwill. Sit’s book value was $320,000. There were no intercompany transactions during 2011 and 2012. Prepare a consolidated income statement for Pas Corporation and Subsidiary for 2012.
There, in estimating the value of a share of common stock of Wal Mart Stores, we computed the present value of excess cash flows at the end of fiscal year 2008 (= beginning of fiscal year 2009) to be $269,244 million. This exercise requires you to confirm that computation. To compute the amount for the years after 2013, note we assume that the excess cash flows are $7,884 million at the end of 2013 and grow at the rate of 10% per year thereafter. That means the cash flows for the end of fiscal year 2014 are $8,672.4 (= 1.10 x $7,884) million. You can use the perpetuity growth model to verify that the present value at the end of 2013 of that growing stream of payments is $433,620 million (= $8,672.4/(.12 .10). That is, if a payment (in this case $7,884 million), grows at rate g (in this case, 10%) per period forever, the discount rate is r (in this case, 12%) per period, and the first payment occurs at the end of the first period, then the present value of that stream is $433,620 [= $8,672.4/(r 2g) = $8,672.4/(0.12 0.10)] million. Then, we discount that amount to the end of fiscal 2008 to derive $246,048 million. Analysts describe the $246,048 million valuation in such computations as the terminal value. (We do not expect that Wal Mart’s excess cash flows could increase forever at 10% per year. After a century or so, such a firm would be larger than the rest of the entire U.S. economy, combined. We use such computations to estimate values. When the discount rate (here 12% per year) exceeds the growth rate (here 10% per year) by a substantial amount (here only 2 percentage points), the present value of payments far in the future, say more than 40 years out, is negligible.)
a. Reproduce the numbers in Column using the data from Column (5) and the appropriate present value computations.
b. Re do the valuation changing the growth rate after 2013 from 10% to 9%.
c. Re do the valuation changing the growth rate after 2013 from 10% to 5%.
d. Comment on the sensitivity of this valuation modeling tool to the effect of assumed growth rates on terminal values.
(Fast Growth Start Up Company; valuation involving perpetuity growth model assumptions.) Fast Growth Start Up Company (FGSUC) has a new successful Internet business. It expects to earn $100 million of after tax free cash flows this year. The company proposes to go public and the company’s internal financial staff suggests to the board of directors that a valuation of $2.5 billion seems reasonable for the company. The investment banking firm’s analyst and the financial staff at the company agree that the growth rate in free cash flows will be 25% per year for several years before the growth rate drops back to one more closely resembling the growth rate in the economy as a whole, which all assume to be 4% per year. Assume that the after tax discount rate suitable for such a new venture is 15% per year. How many years of growth in after tax free cash flow of 25% per year will FGSUC need to earn to justify a market valuation of $2.5 billion? Do not attempt to work this problem without using a spreadsheet program.
Pit Corporation pays $400,000 cash and issues 50,000 shares of Pit Corporation $10 par common stock with a market value of $20 per share for the net assets of Sad Company. The following entries record the business combination on the books of Pit Corporation on December 27, 2011.
Investment in Sad Company (+A)
1,400
Cash ( A)
400
Common stock, $10 par (+SE)
500
Additional paid in capital (+SE)
500
To record issuance of 50,000 shares of $10 par common stock plus $400,000 cash in a business combination with Sad Company.
Cash (+A)
50
Net receivables (+A)
140
Inventories (+A)
250
Land (+A)
100
Buildings (+A)
500
Equipment (+A)
350
Patents (+A)
50
Goodwill (+A)
200
Accounts payable (+L)
60
Notes payable (+L)
135
Other liabilities (+L)
45
Investment in Sad Company ( A)
1,400
To assign the cost of Sad Company to identifiable assets acquired and liabilities assumed on the basis of their fair values and to goodwill.
We assign the amounts to the assets and liabilities based on fair values, except for goodwill. We determine goodwill by subtracting the $1,200,000 fair value of identifiable net assets acquired from the $1,400,000 purchase price for Sad Company’s net assets.
FAIR VALUE EXCEEDS INVESTMENT COST (BARGAIN PURCHASE)
Pit Corporation issues 40,000 shares of its $10 par common stock with a market value of $20 per share, and it also gives a 10 percent, five year note payable for $200,000 for the net assets of Sad Company. Pit’s books record the Pit/Sad business combination on December 27, 2011, with the following journal entries:
Investment in Sad Company (+A)
1,000
Common stock, $10 par (+SE)
400
Additional paid in capital (+SE)
400
10% Note payable (+L)
200
To record issuance of 40,00 0 shares of $10 par common stock plus a $200,000, 10% note in a business combination with Sad Company.
Cash (+A)
50
Net receivables (+A)
140
Inventories (+A)
250
Land (+A)
100
Buildings (+A)
500
Equipment (+A)
350
Patents (+A)
50
Accounts payable (+L)
60
Notes payable (+L)
135
Other liabilities (+L)
45
Investment in Sad Company ( A)
1,000
Gain from bargain purchase (Ga, +SE)
200
To assign the cost of Sad Company to identifiable assets acquired and liabilities assumed on the basis of their fair values and to recognize the gain from a bargain purchase.
We assign fair values to the individual asset and liability accounts in this entry in accordance with GAAP provisions for an acquisition .[15] The $1,200,000 fair value of the identifiable net assets acquired exceeds the $1,000,000 purchase price by $200,000, so Pit recognizes a $200,000 gain from a bargain purchase.
Bargain purchases are infrequent, but may occur even for very large corporations. Two notable transactions related to the sub prime mortgage crisis in U.S. financial markets were reported in the Wall Street Journal in early 2008. “ Bank of America offered an all stock deal valued at $4 billion for Countrywide – a fraction of the company’s $24 billion market value a year ago. Pushed to the brink of collapse by the mortgage crisis, Bear Stearns Cos. agreed – after prodding by the federal government – to be sold to J.P. Morgan Chase & Co. for the fire sale price of $2 a share in stock, or about $236 million. Bear Stearns had a stock market value of about $3.5 billion as of Friday – and was worth $20 billion in January 2007.”
The stockholders’ equities of Pal Corporation and Sip Corporation at January 1 were as follows (in thousands):
Pal
Sip
Capital stock, $10 par
$3,000
$1,600
Other paid in capital
400
800
Retained earnings
1,200
600
Stockholders’ equity
$4,600
$3,000
On January 2, Pal issued 300,000 of its shares with a market value of $20 per share for all of Sip’s shares, and Sip was dissolved. On the same day, Pal paid $10,000 to register and issue the shares and $20,000 for other direct costs of combination.
REQUIRED: Prepare the stockholders’ equity section of Pal Corporation’s balance sheet immediately after the acquisition on January 2.
Pan Company issued 480,000 shares of $10 par common stock with a fair value of $10,200,000 for all the voting common stock of Set Company. In addition, Pan incurred the following costs:
Legal fees to arrange the business combination
$100,000
Cost of SEC registration, including accounting
and legal fees
48,000
Cost of printing and issuing net stock certificates
12,000
Indirect costs of combining, including allocated
overhead and executive salaries
80,000
Immediately before the acquisition in which Set Company was dissolved, Set’s assets and equities were as follows (in thousands):
Book Value
Fair Value
Current assets
$4,000
$4,400
Plant assets
6000
8,800
Liabilities
1,200
1,200
Common stock
8,000
Retained earnings
800
REQUIRED: Prepare all journal entries on Pan’s books to record the acquisition.
Journal entries to record an acquisition with direct costs and fair value/book value differences
On January 1, Pan Corporation pays $400,000 cash and also issues 36,000 shares of $10 par common stock with a market value of $660,000 for all the outstanding common shares of Sis Corporation. In addition, Pan pays $60,000 for registering and issuing the 36,000 shares and $140,000 for the other direct costs of the business combination, in which Sis Corporation is dissolved. Summary balance sheet information for the companies immediately before the merger is as follows (in thousands):
Pan Book Value
Sis Book Value
Sis Fair Value
Cash
$700
$ 80
$ 80
Inventories
240
160
200
Other current assets
60
40
40
Plant assets—net
520
360
560
Total assets
$1,520
$640
$880
Current liabilities
$320
$ 60
$ 60
Other liabilities
160
100
80
Common stock, $10 par
840
400
Retained earnings
200
80
Total liabilities and
$1,520
$640
owners’ equity
REQUIRED: Prepare all journal entries on Pan’s books to account for the acquisition.
Comparative balance sheets for Pin and San Corporations at December 31, 2010, are as follows (in thousands):
Pin
San
Current assets
$ 520
$ 240
Land
200
400
Buildings—net
1,200
400
Equipment—net
880
960
Total assets
$2,800
$2,000
Current liabilities
$ 200
$ 240
Capital stock, $10 par
2,000
800
Additional paid in capital
200
560
Retained earnings
400
400
Total equities
$2,800
$2,000
On January 2, 2011, Pin issues 60,000 shares of its stock with a market value of $40 per share for all the outstanding shares of San Corporation in an acquisition. San is dissolved. The recorded book values reflect fair values, except for the buildings of Pin, which have a fair value of $1,600,000, and the current assets of San, which have a fair value of $400,000.
Pin pays the following expenses in connection with the business combination:
Costs of registering and issuing securities
$60,000
Other direct costs of combination
100,000
REQUIRED: Prepare the balance sheet of Pin Corporation immediately after the acquisition.
On January 2, 2011, Pet Corporation enters into a business combination with Sea Corporation in which Sea is dissolved. Pet pays $1,650,000 for Sea, the consideration consisting of 66,000 shares of Pet $10 par common stock with a market value of $25 per share. In addition, Pet pays the following expenses in cash at the time of the merger:
Finders’ fee
$ 70,000
Accounting and legal fees
130,000
Registration and issuance costs of securities
80,000
$280,000
Balance sheet and fair value information for the two companies on December 31, 2010, immediately before the merger, is as follows (in thousands):
Pet Book Value
Sea Book Value
Sea Fair Value
Cash
$ 300
$ 60
$ 60
Accounts receivable—net
460
100
80
Inventories
1,040
160
240
Land
800
200
300
Buildings—net
2,000
400
600
Equipment—net
1,000
600
500
Total assets
$5,600
$1,520
$1,780
Accounts payable
$ 600
$ 80
$ 80
Note payable
1,200
400
360
Capital stock, $10 par
1,600
600
Other paid in capital
1,200
100
Retained earnings
1,000
340
Total liabilities and owners’ equity
$5,600
$1,520
REQUIRED : Prepare a balance sheet for Pet Corporation as of January 2, 2011, immediately after the merger, assuming the merger is treated as an acquisition.
Journal entries and balance sheet for an acquisition
On January 2, 2011, Par Corporation issues its own $10 par common stock for all the outstanding stock of Sin Corporation in an acquisition. Sin is dissolved. In addition, Par pays $40,000 for registering and issuing securities and $60,000 for other costs of combination. The market price of Par’s stock on January 2, 2011, is $60 per share. Relevant balance sheet information for Par and Sin Corporations on December 31, 2010, just before the combination, is as follows (in thousands):
Par Historical Cost
Sin Historical Cost
Sin Fair Value
Cash
$ 240
$ 20
$ 20
Inventories
100
60
120
Other current assets
200
180
200
Land
160
40
200
Plant and equipment—net
1,300
400
700
Total assets
$ 2,000
$700
$1,240
Liabilities
$ 400
$ 100
$ 100
Capital stock, $10 par
1,000
200
Additional paid in capital
400
100
Retained earnings
200
300
Total liabilities and owners’ equity
$2,000
$700
REQUIRED
1. Assume that Par issues 25,000 shares of its stock for all of Sin’s outstanding shares.
a. Prepare journal entries to record the acquisition of Sin.
b. Prepare a balance sheet for Par Corporation immediately after the acquisition.
2. Assume that Par issues 15,000 shares of its stock for all of Sin’s outstanding shares.
a. Prepare journal entries to record the acquisition of Sin.
b. Prepare a balance sheet for Par Corporation immediately after the acquisition.
The balance sheets of Pub Corporation and Sun Corporation at December 31, 2010, are summarized with fair value information as follows (in thousands):
Pub Corporation
Sun Corporation
Assets
Book Value
Fair Value
Book Value
Fair Value
Cash
$115
$115
$ 10
$ 10
Receivables—net
40
40
20
20
Inventories
120
150
50
30
Land
45
100
30
100
Buildings—net
200
300
100
150
Equipment—net
180
245
90
150
Total assets
$700
$950
$300
$460
Equities
Accounts payable
$ 90
$ 90
$ 30
$ 30
Other liabilities
100
90
60
70
Capital stock, $10 par
300
100
Other paid in capital
100
80
Retained earnings
110
30
Total equities
$700
$300
On January 1, 2011, Pub Corporation acquired all of Sun’s outstanding stock for $300,000. Pub paid $100,000 cash and issued a five year, 12 percent note for the balance. Sun was dissolved.
REQUIRED
1. Prepare a schedule to show how the investment cost is allocated to identifiable assets and liabilities.
2. Prepare a balance sheet for Pub Corporation on January 1, 2011, immediately after the acquisition.
Journal entries and balance sheet for an acquisition
Pat Corporation paid $5,000,000 for Saw Corporation’s voting common stock on January 2, 2011, and Saw was dissolved. The purchase price consisted of 100,000 shares of Pat’s common stock with a market value of $4,000,000, plus $1,000,000 cash. In addition, Pat paid $100,000 for registering and issuing the 100,000 shares of common stock and $200,000 for other costs of combination. Balance sheet information for the companies immediately before the acquisition is summarized as follows (in thousands):
Pat
Saw
Book Value
Book Value
Fair Value
Cash
$ 6,000
$ 480
$ 480
Accounts receivable—net
2,600
720
720
Notes receivable—net
3,000
600
600
Inventories
5,000
840
1,000
Other current assets
1,400
360
400
Land
4,000
200
400
Buildings—net
18,000
1,200
2,400
Equipment—net
20,000
1,600
1,200
Total assets
$60,000
$6,000
$7,200
Accounts payable
$ 2,000
$ 600
$ 600
Mortgage payable—10%
10,000
1,400
1,200
Capital stock, $10 par
20,000
2,000
Other paid in capital
16,000
1,200
Retained earnings
12,000
800
Total equities
$60,000
$6,000
REQUIRED
1. Prepare journal entries for Pat Corporation to record its acquisition of Saw Corporation, including all allocations to individual asset and liability accounts.
2. Prepare a balance sheet for Pat Corporation on January 2, 2011, immediately after the acquisition and dissolution of Saw.
Calculate income and investment balance allocation of excess to undervalued assets
Dok Company acquired a 30 percent interest in Oak on January 1 for $2,000,000 cash. Assume the cost of the investment equals the fair value of Oak’s net assets. Dok assigned the $500,000 fair value over book value of the interest acquired to the following assets:
Inventories
$100,000 (sold in the current year)
Building
$200,000 (4 year remaining life at January 1)
Goodwill
$200,000
During the year Oak reported net income of $800,000 and paid $200,000 dividends.
REQUIRED
1. Determine Dok’s income from Oak.
2. Determine the December 31 balance of the Investment in Oak account.
Journal entry to record income from investee with loss from discontinued operations
Man Corporation purchased a 40 percent interest in Nib Corporation for $1,000,000 on January 1, at book value, when Nibs’s assets and liabilities were recorded at their fair values. During the year, Nib reported net income of $600,000 as follows (in thousands):
Income from continuing operations
$700
Less: Loss from discontinued operations
100
Net income
$600
REQUIRED : Prepare the journal entry on Man’s books to recognize income from the investment in Nib for the year.
Sew Corporation’s stockholders’ equity at December 31, 2011, follows (in thousands):
Capital stock, $100 par
$3,000
Additional paid in capital
500
Retained earnings
500
Total stockholders’ equity
$4,000
On January 3, 2012, Sew sells 10,000 shares of previously unissued $100 par common stock to Pan Corporation for $1,400,000. On this date the recorded book values of Sew’s assets and liabilities equal their fair values. Goodwill from Pan’s investment in Sew at the date of purchase is:
Calculate income and investment balance when investee capital structure includes preferred stock
Run Company had net income of $400,000 and paid dividends of $200,000 during 2012. Run’s stockholders’ equity on December 31, 2011, and December 31, 2012, is summarized as follows (in thousands):
December 31, 2011
December 31, 2012
10% cumulative preferred stock, $100 par
$ 300
$ 300
Common stock, $1 par
1,000
1,000
Additional paid in capital
2,200
2,200
Retained earnings
500
700
Stockholders’ equity
$4,000
$4,200
On January 2, 2012, Nic Corporation purchased 300,000 common shares of Run at $4 per share and also paid $50,000 direct costs of acquiring the investment.
REQUIRED: Determine (1) Nic’s income from Run for 2012 and (2) the balance of the investment in the Run account at December 31, 2012.
Calculate income and investment balance for midyear investment
Arb Corporation acquired 25 percent of Tee Corporation’s outstanding common stock on October 1, for $600,000. A summary of Tee’s adjusted trial balances on this date and at December 31 follows (in thousands):
December 31
October 1
Debits
$ 500
$ 250
Current assets
1,500
1,550
Plant assets—net
800
600
Expenses (including cost of goods sold)
200
200
Dividends (paid in July)
$3,000
$2,600
Credits
$ 300
$ 200
Current liabilities
1,000
1,000
Capital stock (no change during the year)
500
500
Retained earnings January 1
1,200
900
Sales
$3,000
$2,600
Arb uses the equity method of accounting. No information is available concerning the fair values of Tee’s assets and liabilities.
REQUIRED
1. Determine Arb’s investment income from Tee Corporation for the year ended December 31.
2. Compute the correct balance of Arb’s investment in Tee account at December 31.
Adjust investment account and determine income when additional investment qualifies for equity method of accounting
Summary balance sheet and income information for Pim Company for two years is as follows (in thousands):
January 1, 2011
December 31, 2011
December 31, 2012
Current assets
$ 50
$ 60
$ 75
Plant assets
200
240
250
$250
$300
$325
Liabilities
$ 40
$ 50
$50
Capital stock
150
150
150
Retained earnings
60
100
$125
$250
$300
$325
2011
2012
Net income
$100
$ 50
Dividends
60
25
On January 2, 2011, Pim Corporation purchases 10 percent of Fed Company for $25,000 cash, and it accounts for its investment (classified as an available for sale security) in Fed using the fair value method. On December 31, 2011, the fair value of all of Fed’s stock is $500,000. On January 2, 2012, Pim purchases an additional 10 percent interest in Fed stock for $50,000 and adopts the equity method to account for the investment. The fair values of Fed’s assets and liabilities were equal to book values as of the time of both stock purchases.
REQUIRED
1. Prepare a journal entry to adjust the Investment in Fed account to an equity basis on January 2, 2012.
Microbyte Corporation’s consolidated statement of operations (dollars in thousands) follows. Note that Microbyte is a computer company, specializing in data storage devices.
2000
1999
Sales
$184,355
$92,642
Cost of goods sold
102,453
53,344
Gross profit
81,902
39,298
Operating expenses:
Selling, general, and administrative
20,188
12,272
Research and development
15,669
6,785
Total operating expenses
35,857
19,057
Income from operations
46,045
20,241
Other income
1,831
1,744
Income before income taxes and
extraordinary item
47,876
21,985
Income taxes
(17,040)
(8,056)
Income before extraordinary item
30,836
13,929
Extraordinary item
—
1,049
Net income
$30,836
$14,978
Required
a. Identify any unusual trends or categories of information. Identify any potential problems or questions based on this analysis. What other information would be helpful? Why?
b. Conduct horizontal and vertical analyses for each year. Identify any potential problems or issues based on this analysis.
c. Would you consider Microbyte as a very profitable company? Why or why not?
d. Assume that Microbyte’s annual report contained the following footnote:
Because research is so important to the future of Microbyte, the corporation has budgeted $23,000,000 for research and development for 2001. These funds are presently committed to a new facility under construction and to 42 engineers and computer analysts who have been hired to begin work January 1, 2001.
On the basis of this footnote, estimate what would have happened to 2000 earnings if these charges had been incurred in 2000. Construct a simple balance sheet equation including these charges, as though they happened in 2000.
e. Assume that the annual report also contained the following footnote:
Because interest rates are expected to be low during 2001, Microbyte Corporation has signed commitments and pledges to effectively refinance all its short term and long term liabilities. Accordingly, Microbyte expects to recognize a $12 million gain (on debt refinancing) in 2001. On the basis of this footnote, estimate what would have happened to 2000 earnings, assuming that this gain had been recognized in 2000. Construct a simple balance sheet equation, as though the gain had been recognized in 2000.
Pioneer Resource Inc.’s 1999 income statement (dollars in millions) is summarized on the next page. Pioneer Resource is involved in telecommunications.
1999
1998
Revenues
$13,932.3
$13,231.1
Costs and expenses
Network operations
3,787.1
3,642.3
Selling, general, and administrative
4,219.7
4,007.5
Taxes, other than income taxes
661.0
570.2
Interest expense
481.9
410.6
Depreciation expense
1,951.7
1,818.9
Other income, net
(87.4)
(55.4)
Subtotal
11,014.0
10,394.1
Income before income taxes
2,918.3
2,837.0
Income taxes
897.3
855.6
Net income
$ 2,021.0
$ 1,981.4
controller and suppose that the board members had forecast and widely publicized their goal of increasing net income by 5% in 1999. Your horizontal analysis should have indicated that net income only increased by 2%, whereas revenues increased by almost 5% (actually 5.3%).What explanations might you offer as to why the 5% net income goal was not achieved?
g. Suppose that Pioneer Resource’s chairman of the board and the CEO met with you, the controller, prior to publishing this income statement. In this meeting, they strongly encouraged you to make some accounting adjustments in order to achieve the 5% goal. They suggested that interest expense be recalculated at a lower rate of interest, which would cut the “Interest expense” by 50%. Interest rates in the external market were declining rapidly.
The chairman and CEO’s rationale was that Pioneer Resource was refinancing its debts and would soon enjoy the lower interest rates. They also suggested that some revenues from January 2000, which had already been realized, should be transferred to the 1999 income statement. Their rationale was that Pioneer Resource did the work to get the sales in 1999; therefore, the revenues should be properly matched with other revenues and expenses in 1999 and should be shown on the 1999 income statement. Write a short paragraph to the chairman and the CEO indicating your response to their suggestions.
Research Project: Comparing Two Computer Companies
IBM is a well known U.S. company specializing in computer hardware. Several U.S. companies are comparable to IBM.
Required
a. Using library resources (or the Internet), obtain income statements for IBM and one other comparable company (Digital or Compaq) for similar fiscal periods.
b. Conduct horizontal and vertical analyses of IBM and your identified company.
Use the results of your analysis to identify any unusual trends or patterns in the firms’operating costs. Note that even if the report dates are not identical, the relative cost comparisons may be instructive.
c. Write a short report examining the relative profitability of these two companies. Identify the major similarities and differences in the cost structures of these two companies. For example, are the depreciation expenses relatively high in each company? Are the operating costs in the same proportion to revenues across the two companies? Is the growth rate in revenues and net income the same? Why might such similarities or differences exist?
Borden, Inc., in response to pressure from the Securities and Exchange Commission, restated its 1993 and 1992 earnings. It restated the effects of a $642 million restructuring charge taken in 1992, which contributed significantly to Borden’s reported 1992 loss of $439.6 million. It reclassified $145.5 million of the restructuring charge as operating expenses in 1992, and it reversed $119.3 million, for a total restatement of $264.8 million. Therefore, the entire restatement was more than 40% of the original restructuring charge, which is a very large change. The original restructuring charge must have included some very aggressive accounting procedures, which have now been largely restated.
The after tax effects of these restatements on Borden’s net income are:
1992
1993
Net loss, as originally reported
$(439.6)
$(593.6)
1994 restatements, reported net of tax
75.2
(37.1)
Net loss, as adjusted
$(364.4)
$(630.7)
According to the Wall Street Journal (March 22, 1994, p. B8), Borden reported that these restatements would have no further effect on 1994 earnings. Borden further reported that the expenses included in the original 1992 charge of $642 million were “truly incremental and related to one time advertising and promotion programs not occurring in the normal course of business.”
Required
a. Write a short memo to a manager at Borden, Inc., justifying these restatements.
b. Write a short memo to an investor, explaining why these restatements would affect the investor’s decision to purchase (or sell) shares of Borden’s common stock.
c. Explain in your own words why you think Borden was so aggressive in taking the original $642 million restructuring charge. What will it accomplish by restating its 1992 and 1993 net losses?
Conceptual Analysis: Revenue Recognition and Forecasting
The following scenario illustrates several issues concerning revenue recognition, particularly impacting sustainable earnings or operating profits. You should also consider the managerial implications associated with these issues.
A computer firm designs, builds, and sells a microcomputer, called a PEAR, for $1,800. The design costs of the computer are well in excess of $30,000,000 and only 10,000,000 computers are expected to be sold before they are obsolete. A Korean company is currently selling identical computers for $1,500. A Japanese company has just invested a new cursor device to replace the mouse (they call it a RAT). This new RAT will only work with computers sold by the Japanese company. The Japanese computers perform very similar functions to each of the computers described earlier. It sells for $1,200. Discounters have been selling the PEAR for $1,100 via telephone and catalog sales. The PEAR and the Korean clone are essentially obsolete, but will still reach their original volume projections.
The primary developer of the PEAR has just resigned and formed a new company that is expected to design a competitive computer that will be superior to any of these other three models (PEAR, Korean clone, Japanese computer).
Required
Indicate how the PEAR managers might view each of these issues in forecasting their operating income for the next year.
Interpreting Financial Statements: Effects of Asset Write Downs
Byte City, Inc., is a leading independent provider of systems and network management software. Its income statements are abbreviated as follows:
2000
1999
Net revenues
Software products
$64,282,171
$ 52,392,108
Product support and enhancements
32,545,876
27,419,766
Total net revenues
96,828,047
79,811,874
Operating expenses
Cost of goods sold
3,614,919
3,215,778
Sales and marketing
45,782,349
38,372,418
Research, development, and support
23,582,478
27,652,020
General and administrative
14,622,594
14,887,923
Write down of marketing rights and
restructuring expenses
0
17,236,845
Total operating expenses
87,602,340
101,364,984
Income (loss) from operations
$ 9,225,707
($21,553,110)
Required
a. Conduct a horizontal and vertical analysis of Byte City’s income statement.
b. Identify any major unusual items in either year. How might these items affect the future? How might they have been reflected in prior years? How might they have been caused by events in prior years?
c. Discuss why Byte City’s cost of goods sold is so low relative to other expenses, and also with respect to revenues.
d. Restate 1999’s income (loss) from operations by excluding the $17,236,845 write down. What does this restated amount indicate about possible trends in Byte City’s total operating expenses? How does this affect the trend in income from operations?
e. Based only on the information provided, would you predict that Byte City would have a positive income from operations in 2001? Why? By extending the trends in net revenues and in operating expenses to 2001, what amount of income from operations would you predict?
Consider the following horizontal analysis of a firm’s income statement (assume that 1998 is the base year used for comparison, when all items equal 100%):
2000
1999
Net revenues
Product sales
116.4%
118.2%
Product support and enhancement
124.2
177.9
Total net revenue
119.3
134.9
Operating expenses
Cost of goods sold
102.8
40.2
Sales and marketing
120.7
172.1
Research, development and support
91.1
181.8
General and administrative
97.9
161.3
Total operating expenses
103.5
132.2
Income (loss) from operations
114.3
101.5
Required
a. Evaluate the firm’s performance.
b. In which year was it more successful? Why?
c. In which year did it control costs most effectively? Why?
d. In which year did the market respond best to the firm’s products and services? Why?
e. In which area of expenses should management concentrate the most attention? Why?
f. Did this firm have a positive or a negative income from operations in 1999? Why? In 2000? Why?
You are the chief accountant for the Seal Company, which produces candy bars. You like your job very much, and one reason is that your best friend, Stacy Monroe, is a salesperson for Seal. Seal primarily markets its candy bars to grocery chains, which buy in large quantities. As December 31 (Seal’s year end) approaches, your friend Stacy worries that she will not achieve her sales quota. If the quota is not met, Stacy will not receive the rather large bonus she had been counting on.
With just one week to go before year end, Stacy receives a big order; in fact, the order will enable her to meet her quota and receive her bonus. There’s just one problem. Seal’s sales terms are that the customer takes title to the candy when Seal transfers the candy to an independent trucker. At that point, Seal records the revenue and Stacy gets credit for the sale. You assure Stacy that one week is plenty of time to process the order. Stacy is so elated that she celebrates by buying a $20,000 car.
On December 31, Stacy’s order is ready to be shipped and is awaiting the trucker. Although this particular trucker is usually reliable, he phones to say that a blizzard will prevent him from arriving until January 2. Stacy is understandably upset. She purchased a new car based on your assurance that she would receive her bonus, and it now appears that her bonus will not materialize.
Required
Describe how the sale on December 31 should be recorded, thus enabling Stacy to receive (or not receive) the bonus.
The following schedule summarizes the current assets from the end of 1996 balance sheets for Kmart, a national retailer of consumer products, and HBO, a producer and distributor of cable television programming:
The following schedule summarizes the noncurrent assets reported in the end of 1997 balance sheets of Hewlett
Packard, a company that designs, manufactures, and services electronic data and communications systems, and Bethlehem Steel, a major steel fabricator.
Hewlett
Bethlehem
Packard
Steel
(Dollars in millions)
Current assets (total)
$20,947
$1,464
Noncurrent assets
Property, plant, and equipment (at cost)
11,776
6,454
Less: Accumulated depreciation
(5,464)
(4,096)
Net
6,312
2,358
Long term receivables and other
4,490
981
Total noncurrent assets
10,802
3,339
Total assets
$31,749
$4,803
Required
a. Identify the major differences between these two firms in the composition of noncurrent assets. Try to explain these differences based on the types of products that each company produces.
b. Based solely on the information provided here, which company appears to have the older assets?
The following schedule summarizes the components of shareholders’ equity reported in the end of 1997 balance sheets of Bethlehem Steel and Lear Corporation:
Bethlehem
Lear
Steel
Corporation
(Dollars in millions)
Shareholders’ equity:
Paid in capital
$1,923
$ 852
Retained earnings (deficit)
(708)
401
Other
—
(46)
Total shareholders’ equity
$1,215
$1,207
Required
a. Which firm has obtained the larger amount of capital through sale of stock to investors?
b. Which firm has obtained the larger amount of capital through reinvestment of earnings?
c. Explain why Bethlehem reports a negative (deficit) balance in retained earnings at the end of 1997.
d. Suppose that Lear earns $150 and pays dividends of $90 during 1998. What would be the firm’s ending balance in retained earnings? (All dollars are in millions.)
Suppose that a supervisor asks you to reclassify a short term note payable as a long term liability.
a. What effect will this have on the current ratio?
b. Could such an effect be viewed beneficially by a current or prospective lender?
c. How would your answer change if the lender agreed to extend the due date on the loan by 18 months?
d. How would your answer in part b change if a prospective lender also held other long term liabilities? Why?
e. Consider the ethical implications of reclassifying the note, assuming that you know the note’s maturity is at the end of the current fiscal year. You may assume that the size of the note is significant (or material). As an accountant within the firm, what should/would you do? As the firm’s auditor, how would you view this reclassification?
Future value of an annuity. Calculate the requested amount in each of the following scenarios. Today is January 1, 2008.
a. Jill Wilson plans to invest $2,500 at the end of each of the next 20 years in her individual retirement account. How much will she have accumulated on December 31, 2027, if she earns 6% each year compounded annually?
b. Refer to part a. How much will Jill have accumulated on December 31, 2027, if she invests the $2,500 at the beginning of each of the 20 years instead of at the end of each year?
c. Assume for this part that Jill wants to accumulate $100,000 on December 31, 2027. How much must she invest at the end of each of the next 20 years to accumulate the desired amount if the interest rate is 6% compounded annually?
d. Repeat part c, but assume Jill will make the investments at the beginning of each of the next 20 years.
In the preceding Exercises 10 through 15, you computed a number. To do so, first you must decide on the appropriate factor from the tables, and then you use that factor in the appropriate calculation. Notice that you could omit the last step. You could write an arithmetic expression showing the factor you want to use without actually copying down the number and doing the arithmetic. For example, the notation T(i, p, r) means Table I (1, 2, 3, or 4), row p (periods 1 to 20, 22, 24 . . . , 40, 45, 50, 100), and column r (interest rates from 1/2% up to 20%). Thus, T(3, 16, 12) would be the factor in Table 3 for 16 periods and an interest rate of 12% per period, which is 42.75328. Using this notation, you can write an expression for any compound interest problem. A clerk or a computer can evaluate the expression. You can check that you understand this notation by observing that the following are true statements:
T(1, 20, 8) = 4.66096
T(2, 12, 5) = 0.55684
T(3, 16, 12) = 42.75328
T(4, 10, 20) = 4.19247
In the following questions, write an expression for the answer using the notation introduced here, but do not attempt to evaluate the expression.
a. Work the a parts of Exercises 10 through 15.
b. How might your instructor use this notation to write examination questions on compound interest without having to supply you with tables?
Finding implicit interest rates; constructing amortization schedules. Berman Company purchased a plot of land for possible future development. The land had fair value of $86,000. Berman Company gave a 3 year interest bearing note. The note had face value of $100,000 and provided for interest at a stated rate of 8%. The note requires payments of $8,000 at the end of each of three years, the last payment coinciding with the maturity of the note’s face value of $100,000.
a. What is the interest rate implicit in the note, accurate to the nearest tenth of 1%?
b. Construct an amortization schedule for the note for each year. Show the carrying value of the note at the start of the year, interest for the year, payment for the year, amount reducing or increasing the carrying value of the note for each payment, and the carrying value of the note at the end of each year. Use the interest rate found in part for an example of an amortization schedule.
Calculating impairment. On January 1, 2008, assume that Levi Strauss opened a new textile plant to produce synthetic fabrics. The plant is on leased land; 20 years remain on the nonrenewable lease. The cost of the plant was $20 million. Net cash flow to be derived from the project is estimated to be $3,000,000 per year. The company does not normally invest in such projects unless the anticipated yield is at least 12%. On December 31, 2008, the company calculates that cash flows from the plant were $2,800,000 for 2008. On the same day, farm experts predict cotton production will be unusually low for the next two years. Levi Strauss estimates the resulting increase in demand for synthetic fabrics will boost cash flows to $3,500,000 for each of the next two years. Subsequent years’ estimates remain unchanged at $300,000 per year. Ignore tax considerations.
a. Calculate the present value of the future expected cash flows from the plant when it opened.
b. What is the present value of the plant on January 1, 2009, immediately after the reestimation of future cash flows?
c. On January 2, 2009, the day following the cotton production news release, a competitor announces plans to build a synthetic fabrics plant to open in three years. Levi Strauss keeps its 2009 to 2011 estimates but reduces the estimated annual cash flows for subsequent years to $2,000,000. What is the value of Levi Strauss’s plant on January 1, 2009, after the new projections?
d. On January 2, 2009, an investor contacts Levi Strauss about purchasing a 20% share of the plant. If the investor expects to earn at least a 12% annual return on the investment, what is the maximum amount that the investor should pay? Assume that the investor and Levi Strauss both know all relevant information and use the same estimates of annual cash flows described in part c.
Computation of present value of cash flows; untaxed acquisition, no change in tax basis of assets. The balance sheet of Lynch Company shows net assets of $100,000 and shareholders’ equity of $100,000. The assets are all depreciable assets with remaining lives of 20 years. The income statement for the year shows revenues of $700,000, depreciation of $50,000 (5 $1,000,000 4 20 years), no other expenses, income taxes of $260,000 (40% of pretax income of $650,000), and net income of $390,000. Bages Company is considering purchasing all of the stock of Lynch Company. It is willing to pay an amount equal to the present value of the cash flows from operations for the next 20 years discounted at a rate of 10% per year. The transaction will be a tax free exchange; that is, after the purchase, the tax basis of the assets of Lynch Company will remain unchanged so that depreciation charges will remain at $50,000 per year and income taxes will remain at $260,000 per year. Revenues will be $700,000 per year for the next 20 years.
a. Compute the annual cash flows produced by Lynch Company.
b. Compute the maximum amount Bages Company should be willing to pay.
Valuation of intangibles with perpetuity formulas. When the American Basketball Association (ABA) merged with the National Basketball Association (NBA), the owners of the ABA St. Louis Spirits agreed to dissolve their team and not enter the NBA. In return, the owners received a promise in perpetuity from the NBA that the NBA would pay to the Spirits’ owners an amount each year equal to 40% of the TV revenues that the NBA paid to any one of its regular teams. Currently, the owners receive $4 million per year. The NBA wants to pay a single amount to the owners now and not have to pay more in the future. Of course, the owners prefer to collect more, rather than less, but here they want to know the reasonable minimum that will make them indifferent to the single payment in lieu of receiving the annual payments in perpetuity. Ignore income tax effects.
a. Assume the owners expect the TV revenues to remain constant, so that they can expect $4 million per year in perpetuity and use an interest rate of 8% in their discounting calculations. What minimum price should these owners be willing to accept?
b. Refer to the specifications for the preceding question. If the owners use a smaller interest rate for discounting, will the minimum price they are willing to accept increase, decrease, or remain unchanged?
c. The owners use an 8% discount rate, and they expect TV revenues to increase by 2% per year in perpetuity. What minimum price should the owners be willing to accept?
d. Refer to the specifications in c. If the owners use a smaller interest rate for discounting, will the minimum price they are willing to accept increase, decrease, or remain unchanged?
e. Refer to the specifications in c. If the owners assume a smaller rate for growth in future receipts from the NBA, will the minimum price they are willing to accept increase, decrease, or remain unchanged?
Lexie T. Colleton is the chief financial officer of Ragazze, and one of her duties is to give advice on investment projects. Today’s date is
December 31, 2008. Colleton requires that, to be acceptable, new investments must provide a positive net present value after discounting cash flows at 12% per year. A proposed investment is the purchase of an automatic gonculator, which involves an initial cash disbursement on December 31, 2008. The useful life of the machine is nine years, through 2017. Colleton expects to be able to sell the machine for cash of $30,000 on December 31, 2017. She expects commercial production to begin on December 31, 2009. Ragazze will depreciate the machine on a straight line basis. Ignore income taxes. During 2009, the break in year, Ragazze will perform test runs in order to put the machine in proper working order. Colleton expects that the total cash outlay for this purpose will be $20,000, incurred at the end of 2009. Colleton expects that the cash disbursements for regular maintenance will be $60,000 at the end of each of 2010 through 2013 inclusive, and $100,000 at the end of each of 2014 through 2016 inclusive. Colleton expects the cash receipts (net of all other operating expenses) from the sale of products that the machine produces to be $130,000 at the end of each year from 2009 through 2016, inclusive.
a. What is the maximum price that Ragazze can pay for the automatic gonculator on December 31, 2008, and still earn a positive net present value of cash flows?
b. Independent of your answer to part a, assume the purchase price is $250,000, which Ragazze will pay with an installment note requiring four equal annual installments starting December 31, 2009, and an implicit interest rate of 10% per year. What is the amount of each payment?
William Marsh, CEO of Gulf Coast Manufacturing, wishes to know which of two strategies he has chosen for acquiring an automobile has lower present value of cost. Strategy L. Acquire a new Lexus at the beginning of 2008, keep it until the end of 2013, then trade it in on a new car. Strategy M. Acquire a new Mercedes Benz at the beginning of 2008, trade it in at the end of 2010 on a second Mercedes Benz, keep that for another three years, then trade it in on a new car at the end of 2013.
Data pertinent to these choices appear below. Assume that Marsh will receive the trade in value in cash or as a credit toward the purchase price of a new car. Ignore income taxes and use a discount rate of 10% per year. Gulf Coast Manufacturing depreciates automobiles on a straight line basis over 8 years for financial reporting, assuming zero salvage value at the end of 8 years.
a. Which strategy has lower present value of costs?
b. What role, if any, do depreciation charges play in the analysis and why?
Lexus
Mercedes Benz
Initial Cost at the Start of 2008
$60,000
$ 45,000
Initial Cost at the Start of 2011 Trade in Value
48,000
Trade in Value
End of 2010
23,000
End of 20131
16,000
24,500
Estimated Annual Cash Operating Costs Except Major Servicing
4,000
Estimated Cash Cost of Major Servicing
4,500
End of 2011
End of 2009 and End of 2012
6,500
2,500
1At this time Lexus is 6 years old; second Mercedes Benz is 3 years old.
Equity Cushion Co. reports the following items in its financial statements:
1998
1999
Net income
$16,000,000
$24,000,000
Common shares outstanding
1,000,000 shares
1,200,000 shares
Required
a. Determine the firm’s earnings per share (EPS) in both 1998 and 1999.
b. Determine the percentage change in net income and EPS from 1998 to 1999.
c. Based on your answers to part b, what would you expect Equity Cushion’s net income and EPS to be in 2000? Clearly state any assumptions made in developing your answers.
Ben Shien’s Wonton Works produces two grades of dumpling wrappers, standard and deluxe. Sales and cost of sales for both products for 1999 and 2000 were:
1999
2000
Standard
(Dollars in thousands) Deluxe
Standard
Deluxe
Sales
$600
$900
$900
$600
Cost of sales
$500
$600
$750
$400
Required
a. Determine Ben Shien’s total sales, gross profit, and gross profit percentage in each year.
b. Conduct a horizontal (percentage change) analysis of the sales, cost of sales, and gross margin amounts.
c. Explain why Ben Shien’s overall gross profit declined during 2000.
1. Rent for two months of $1,200 was paid in advance.
2. A customer’s order was received for a bridal veil that will be billed at delivery for $120.
3. Supplies, purchased three months ago at a cost of $300, were used in the current month.
4. An etching by Picasso was purchased in 1960 for $400. A similar etching just sold at Sotheby’s for $45,000.
5. Equipment purchased 10 years ago had monthly depreciation recorded of $900. The equipment had an original useful life of five years and is still in use.
6. An architect was paid a $2,000 retainer for preparing designs and plans for a new office.
7. Wages of $120, earned by employees on New Year’s Eve, will be paid on January 5.
8. A mortgage loan was issued last year, but the creditors are now three months delinquent in their monthly payments.
Required:
Discuss how the matching and revenue recognition principles would be used to determine the revenue or expense in each of the transactions:
Transaction Analysis: Preparing an Income Statement, Cash Versus Accrual
Jill Zimmer wants to evaluate the success of her restaurant, Planet Broadway. She has assembled the following 2000 data:
1. Wages were $270,000, paid in cash.
2. Collections from customers were $675,000. (Assume that half the customers paid their bills by year end).
3. A $5,000 deposit for a future wedding reception is included in these collections.
4. Insurance expense was $3,500, paid in cash.
5. Rental expense was $120,000, paid half in cash and half in promissory notes due in 2001.
6. Food costs were $85,000, paid in cash.
7. Advertising bills of $13,000 were paid; however, Jill had only agreed to pay $1,000 each month under her contract with the advertising firm. The extra $1,000 payment pertained to 1999.
8. Interest revenues were $350, collected in cash.
9. Cab fares (for inebriated customers) were $875.
10. Jill’s salary was $10,000 per month, but due to concerns about cash flow, she was only paid $5,000 each month.
11. The income tax rate is 28% of income before taxes.
Required
a. Prepare a single step income statement, using the accrual basis of accounting.
b. Prepare a similar income statement, using the cash basis of accounting.
c. Discuss the differences between these two statements.
d. What managerial concerns might Jill have upon seeing your income statement?
e. What additional items usually appear in such an income statement for a small business?
f. Which costs do you feel are high, relative to Jill’s volume of business?
g. On which costs should she concentrate most in order to improve her profitability?
h. What else could she do to improve her net income?
1. A firm sold merchandise for $1,000, but no cash was received.
2. A firm collected the $1,000 from transaction 1.
3. A medical clinic provided treatment for a patient and billed the patient’s insurance company for $65. The patient is responsible for any deficiency not paid by insurance.
4. An insurance company paid the medical clinic only $49.
5. The physician billed the patient for the balance due.
6. The patient paid the physician $11.
7. Safeway Market sold three bags of groceries for $110, but the customer paid for the groceries with a credit card.
8. Shannon Engineers signed a contract with the State of Arkansas for $10,000,000 to design and build a bridge over the Arkansas River. It will take Shannon two years to complete this project, and no work will be started until next year.
9. The state of Arkansas paid Shannon a deposit of $1,000,000 after the contract was signed but before any other work commenced.
10. The state of Arkansas paid $4,000,000 to Shannon during the first year of work, even though two thirds of the bridge was completed way ahead of schedule.
11. The state of Arkansas paid the remaining $5,000,000 at the end of the second year, long after the bridge was completed.
Required
a. For each transaction, determine the amount of revenue that would be recognized under accrual accounting.
b. For each transaction, determine the amount of revenue that would be recognized under cash basis accounting.
c. Discuss the differences between the revenue amounts recognized on each basis.
Consider the following transactions, which are independent, except as noted: 1. Sarah Jones, R.N., provided home nursing services to her clients and billed them for 20 hours of service at $65 per hour.
2. Ms. Jones collected $60 per hour from her state’s Medicaid program for the services in transaction 1. Patients are not required to make up any shortfall for the 20 hours of service. Therefore, Sarah wrote off (canceled) the balance in the receivable account.
3. Quick Shop Grocery sold food and other merchandise for $3,500, on account.
(Ignore the cost of goods sold.)
4. Quick Shop Grocery contracted with Bob’s Bakery to provide flour, sugar, and other ingredients at a standard fee of $100 per day.
5. Andy’s Aerobic Aerie sold annual memberships to exercise fanatics at $30 per month. This entitles members to unlimited access to aerobics classes, workouts, and so on. On January 1, Andy signed 100 members, who pay the first month’s fee.
6. Andy signed an agreement with Sarah Jones to provide discounted memberships to 10 of her impoverished clients at $20 per month. Half paid at the end of the first month.
7. Andy decided to prepare and distribute a monthly aerobics magazine, which is available to members at $5 per issue. Only half of Andy’s 110 members took advantage of this offer and paid the annual subscription.
8. Andy put 30 copies of the aerobics magazine on display in Quick Shop. These copies were “consigned” to Quick Shop, and payment is not due until the issues are sold.
9. All 30 copies of the guide sold. Andy collected $4 per issue from Quick Shop ($5 minus 20% consignment fee).
Required
a. Determine the revenue associated with each item that would be recognized during the first month under the accrual method.
b. Determine the revenue that would be recognized for each item under the cash basis of accounting.
Transaction Analysis: Preparing an Income Statement, Accrual Basis
The Lick Skillet Bakery provides deli meals, bakery goods, and espresso to restaurant customers. It also sells take out specialty foods, including bakery goods, hot and cold entrees, and so on. The owners of Lick Skillet want to know how successful the bakery was in 2000, based on the following information:
1. Lick Skillet sold food items and collected $400,500 (cash) from restaurant customers. (Ignore the cost of goods sold until transaction 8.)
2. Lick Skillet contracted with local firms to provide it with catering services totaling $560,000 during 2000.
3. Lick Skillet provided the contract catering services and collected $456,000 from its catering clients.
4. Lick Skillet purchased (with cash) restaurant equipment, expected to last three years, at a cost of $30,000.
5. Lick Skillet paid employees $475,000 during 2000.
6. Lick Skillet owed employees $55,000 for work performed near the end of December 2000.
7. Lick Skillet owed employment taxes of $67,500 for the entire year of 2000, but had not obtained the appropriate forms from the state and federal governments.
8. Lick Skillet purchased food and other consumable supplies costing $236,700 and paid cash. Although it had no inventory at the beginning of 2000, its inventory on December 31, 2000, was estimated at $6,500.
9. Items returned by disgruntled customers resulted in refunds totaling $3,550.
10. Lick Skillet purchased an insurance policy on January 1, 2000, costing $4,400 and provided insurance for both 2000 and 2001.
Required
a. Record these business transactions in the basic accounting equation, including any necessary adjustments, using the accrual basis of accounting. Set up headings as follows: Cash, Accounts Receivable, Inventory, Prepaid Insurance, Equipment, Accumulated Depreciation, Accrued Liabilities, and Owners’ Equity.
b. Prepare a multistep income statement.
c. Evaluate Lick Skillet’s success in 2000.
d. What important items might Lick Skillet be ignoring in its income statement?
e. If you now find that Mr. and Mrs. Lick have worked the entire year at no salary, how would that change the analysis?
f. If you then find that the bakery is located in the Lick personal residence, how does that affect your analysis? Assume that the Licks pay rent of $3,000 per month, and that the bakery covers about two thirds of the unit’s total floor space.
The Bichette Company had the following transactions during the year ended December 31, 2000:
1. Sales on account were $155,000. Cash sales were $38,000.
2. Cost of goods sold during the year was $42,000.
3. Wages earned by employees were $32,000. Three quarters of the amount was paid during the year as the wages were incurred. The remainder was accrued at year end.
4. A two year insurance policy was purchased on January 1, 2000, for $4,800.
5. Equipment with a five year life was acquired on June 30, 2000, for $10,000, with a note bearing interest at an annual rate of 9%. The interest and principal are not due until June 30, 2001.
6. Rent and other operating expenses paid in cash were $14,500.
7. The company sold a short term investment and recorded a gain of $800.
8. Dividends declared and paid were $24,015.
9. The income tax rate was 30%.
Required
a. Prepare a multi step income statement similar to Exhibit 4 1 for the year ended December 31, 2000. Note: Make the necessary adjustments before preparing the income statement.
b. Assume that stockholders’ equity at the beginning of the year was $740,000.
The only changes recorded in stockholders’ equity during 2000 were net income and dividends. Calculate return on equity and evaluate your results.
c. Calculate earnings per share. Assume that 140,000 shares were outstanding.
Revenue, expenses, and related accounts of Stackwell Enterprises Inc. for the year ended December 31, 1999, were
Cost of goods sold
$135,000
Utilities expense
$4,800
Depreciation expense
12,000
Income tax rate
30%
Dividends declared and
4,000
Earthquake loss (gross
Advertising expense
1,600
amount; assume not in
Office wages expense
28,000
an earthquake area)
$15,000
Insurance expense
2,400
Interest expense
10,000
Gain on sale of short term
Repairs and maintenance
investments
3,500
expense
1,700
Commission expense
15,000
Interest income
2,000
Sales revenue
230,000
Required
a. Prepare a multi step income statement similar to Exhibit 4 1 for the year ended December 31, 1999. Selling expenses include advertising and commission expense.
b. Calculate earnings per share. Assume that 100,000 shares were outstanding.
Susan’s Drawing Studio has been very successful, with annual sales and profits at a record high. Susan wants to evaluate and better understand the studio’s profitability and performance based on the following year end account balances:
Sales
$400,000
Supplies used
$ 25,600
Property tax expense
2,550
Cash
32,300
Supplies inventory
12,400
Building and equipment
110,000
Accounts payable
2,450
Wages payable
1,200
Wages expense
13,240
Shareholders’ equity
?
Receivables
2,200
Advertising expense
2,400
Taxes payable
2,670
Miscellaneous expenses
120,000
Required
a. Prepare a balance sheet and a multiple step income statement.
b. Evaluate Susan’s net income relative to her sales volume.
c. What is Susan’s net income as a percentage of sales? Why do you think most firms do not have net income ratios this high?
d. Would your conclusions about Susan’s net income change if you learned that she had been withdrawing $10,000 every month and charging these payments to Miscellaneous Expenses? Why?
e. How would your conclusions change if you learned that Susan, who is a gifted artist, could be earning $40,000 a month by working for her former employer, the Degas Drawing Corporation?
f. Given that Susan has a Building and Equipment account, what basic type of expense is missing from her income statement? Would calculation of that item change your conclusions about her relative profitability? How large would this item have to be to change your views about Susan’s profitability? Why? What other information would you need before drawing firm conclusions about this issue?
g. Why do you think shareholders’ equity has a lower balance than the net income (part a)?
h. Are there any other major elements of information missing? If so, what are they, and why would you like more information about these items?
Determining Expected Revenues and Expenses and Preparing an Income Statement
Beth’s Espresso Cart Inc. sells coffee, pastries, and mineral water at the Boulder Mall. Last year, Beth leased a coffee cart and opened her business. She initially felt that cash flows were a useful measure of her performance. The cart’s owner is now running a competitive coffee cart on the next block. Beth has heard about accrual accounting and is hoping to develop a better measure of her performance this year.
1. Beth paid $5,200 for a coffee cart, which she expects to use for the next four years.
2. She purchased coffee pots, cups, and other supplies at a cost of $2,000 and paid cash. Half of these supplies will be replaced each year.
3. Electricity and propane costs averaged $40 per on the.
4. Beth started and ended the year with negligible amounts of coffee beans and mineral water.
5. Each month, Beth was paid a salary of $500 to cover personal living expenses.
Determining Expected Revenues and Expenses and Preparing an Income Statement
Beth’s Espresso Cart Inc. sells coffee, pastries, and mineral water at the Boulder Mall. Last year, Beth leased a coffee cart and opened her business. She initially felt that cash flows were a useful measure of her performance. The cart’s owner is now running a competitive coffee cart on the next block. Beth has heard about accrual accounting and is hoping to develop a better measure of her performance this year.
1. Beth paid $5,200 for a coffee cart, which she expects to use for the next four years.
2. She purchased coffee pots, cups, and other supplies at a cost of $2,000 and paid cash. Half of these supplies will be replaced each year.
3. Electricity and propane costs averaged $40 per month.
4. Beth started and ended the year with negligible amounts of coffee beans and mineral water.
5. Each month, Beth was paid a salary of $500 to cover personal living expenses.
6. Last year, Beth purchased a three year insurance policy for liability and related incidents costing $1,200.
7. Beth expects to have six really good months of sales revenue during the summer and six slower months. Based on last year, her purchases of coffee, pastries, and mineral water during the peak months averaged about $2,000 each month. During the slower months, these items cost about $1,400 each month.
8. During peak months, Beth generally collected $4,500 each month, and during slower months she collected $3,000.
Required
a. Identify the amount of annual revenues and expenses that would be expected for each of the items above. Construct a single step income statement for Beth’s Espresso Cart for the next year.
b. What should Beth consider as she makes plans for next year? What other items should be considered for inclusion in her income statement? Why?
c. Why is an income statement useful to Beth? Discuss how the income statement may be more useful than a checkbook listing each cash inflow and outflow?
1. Banana Republic sells clothes for cash or on credit card vouchers, which are collected from banks within a few days after the sale.
2. Micropoint Computer Systems sells hardware and software on installment or time payment plans. Micropoint runs a credit check on every customer and only extends credit to customers with high credit ratings.
3. Backdoor Appliances sells used and new household appliances on installment or time payment plans. They sell on credit to anyone who signs a purchase agreement, even though many of their customers have dubious credit histories. Accordingly, Backdoor experiences many customer defaults, incurs substantial collection costs, and is rarely able to recover its merchandise.
4. Ball Aerospace manufactures satellites and satellite parts under contract to NASA. NASA requires Ball to maintain certain inventories of spare parts as well as the expertise to provide consultants and technical assistance as needed. Their contract obligates NASA to buy all parts, such as satellites, produced by Ball. Under the contract, Ball produced spare parts at a cost of $2 million and billed NASA for $3 million.
5. Assume that the correct accounting was conducted for part 4. Now assume that the sales manager at Ball is trying to boost her performance for 1998 and sells a complete weather satellite to Russia for $5 million, in violation of the NASA contract. What revenue should be recognized and what should the firm’s controller do when informed of this situation?
Required:
Identify when, and how much, revenue should be recognized in each of the previous cases.
The following worksheet has been retrieved from a company’s files that were destroyed by fire. Identify the underlying transactions that occurred during the month. Write a brief (one to two sentence) description of each transaction.
SILLA, Inc., is a producer and supplier of natural gas and petroleum based products.
Its condensed statements of operations for the first quarters of 1998 and 1999 are shown below (dollars in thousands):
1999
1998
Revenues:
$63,405
$59,088
Natural gas, oil, and other liquids
1,065
176
Other
64,470
59,264
Costs and expenses:
Operating, exploration, and taxes
19,099
18,844
General and administrative
5,780
5,819
Depreciation, etc.
29,450
25,650
54,329
50,313
Operating income
$10,141
$ 8,951
Required
a. Based on this (partial) income statement, evaluate SILLA’s first quarter performance for 1999. To accomplish this objective, conduct horizontal and vertical analyses.
b. What other information would help you evaluate SILLA’s profitability?
c. Now consider the remainder of SILLA’s income statement as follows:
1999
1998
Operating income
$ 10,141
$ 8,951
Interest expense, net of interest income
(32,259)
(32,575)
Securities gains
5,509
3,280
Other
(370)
(1,851)
Net loss
$ (16,979)
$ (22,195)
Average total assets
$542,500
$553,000
Average total stockholders’ equity
105,345
106,950
Interest expense, net of tax
42,400
43,200
Complete Silla’s income statement (see part a) and evaluate SILLA’s first quarter performance for 1999.
d. To better understand Silla’s performance, calculate the return on assets and return on equity for both periods.
e. How has this new information changed the evaluation of SILLA’s performance? What issues will most concern SILLA’s board of directors? Why? What suggestions could be made to SILLA’s Board?
Amanda M is a regional manufacturer and wholesaler of high quality chocolate candies. The company’s sales and collection process is as follows. Amanda M makes use of an enterprise wide information system with electronic data interchange (EDI) capability. No paper documents are exchanged in the sales and collection process. The company receives sales orders from customers electronically. Upon receipt of a sales order, shipping department personnel prepare goods for shipment, and input shipping data into the information system. The system sends an electronic shipping notice and invoice to the customer at the time of shipment. Terms are net 30. When payment is due, the customer makes an electronic funds transfer for the amount owed. The customer’s information system sends remittance (payment) data to Amanda M. Amanda M’s information system updates accounts receivable information at that time. Draw a context diagram and a level 0 logical data flow diagram for Amanda M’s sales and collection process.
The order writing department at the Winston Beauchamp Company is managed by Alan Most.
The department keeps two types of computer files: (1) a customer file of authorized credit customers and (2) a product file of items currently sold by the company. Both of these files are direct access files stored on magnetic disks. Customer orders are handwritten on order forms with the Winston Beauchamp name at the top of the form, and item lines for quantity, item number, and total amount desired for each product ordered by the customer.
When customer orders are received, Alan Most directs someone to input the information at one of the department’s computer terminals. After the information has been input, the computer program immediately adds the information to a computerized ‘‘order’’ file and prepares five copies of the customer order. The first copy is sent back to Alan’s department; the others are sent elsewhere. Design a system flowchart that documents the accounting data processing described here. Also, draw a data flow diagram showing a logical view of the system.
The LeVitre and Swezey Credit Union maintains separate bank accounts for each of its 20,000 customers. Three major files are the customer master file, the transaction file of deposits and withdrawal information, and a monthly statement file that shows a customer’s transaction history for the previous month. The following lists the bank’s most important activities during a representative month:
a. Customers make deposits and withdrawals.
b. Employers make automatic deposits on behalf of selected employees.
c. The bank updates its master file daily using the transaction file.
d. The bank creates monthly statements for its customers, using both the customer master file and the transactions file.
e. Bank personnel answer customer questions concerning their deposits, withdrawals, or account balances.
f. The bank issues checks to pay its rent, utility bills, payroll, and phone bills.
Draw a data flow diagram that graphically describes these activities.
The Jeffrey Getelman Publishing Company maintains an online database of subscriber records, which it uses for preparing magazine labels, billing renewals, and so forth. New subscription orders and subscription renewals are keyed into a computer file from terminals. The entry data are checked for accuracy and written on a master file. A similar process is performed for change of address requests. Processing summaries from both runs provide listings of master file changes.
Once a month, just prior to mailing, the company prepares mailing labels for its production department to affix to magazines. At the same time, notices to new and renewal subscribers are prepared. These notices acknowledge receipt of payment and are mailed to the subscribers. The company systems analyst, Bob McQuivey, prepared the system flowchart in shortly before he left the company. As you can see, the flowchart is incomplete. Finish the flowchart by labeling each flowcharting symbol. Don’t forget to label the processing runs marked computer.
The Berridge Company (Drawing Document Flowcharts)
The Berridge Company is a discount tire dealer that operates 25 retail stores in a metropolitan area. The company maintains a centralized purchasing and warehousing facility and employs a perpetual inventory system. All purchases of tires and related supplies are placed through the company’s central purchasing department to take advantage of the quantity discounts offered by its suppliers. The tires and supplies are received at the central warehouse and distributed to the retail stores as needed. The perpetual inventory system at the central facility maintains current inventory records, which include designated reorder points, optimum order quantities, and balance on hand information for each type of tire or related supply.
The participants involved in Berridge’s inventory system include (1) retail stores, (2) the inventory control department, (3) the warehouse, (4) the purchasing department, (5) accounts payable, and (6) outside vendors. The inventory control department is responsible for maintenance of the perpetual inventory records for each item carried in inventory.
The warehouse department maintains the physical inventory of all items carried by the company’s retail stores.
All deliveries of tires and related supplies from vendors are received by receiving clerks in the warehouse department, and all distributions to retail stores are filled by shipping clerks in this department. The purchasing department places every order for items needed by the company. The accounts payable department maintains the subsidiary ledger with vendors and other creditors. All payments are processed by this department. The documents used by these various departments are as follows:
Retail Store Requisition (Form RSR). The retail stores submit this document to the central warehouse whenever tires or supplies are needed at the stores. The shipping clerks in the warehouse department fill the orders from inventory and have them delivered to the stores. Three copies of the document are prepared; two of which are sent to the warehouse, and the third copy is filed for reference.
Purchase Requisition (Form PR). An inventory control clerk in the inventory control department prepares this document when the quantity on hand for an item falls below the designated reorder point. Two copies of the document are prepared. One copy is forwarded to the purchasing department, and the other is filed.
Purchase Order (Form PO). The purchasing department prepares this document based on information found in the purchase requisition. Five copies of the purchase order are prepared. The disposition of these copies is as follows: copy 1 to vendor, copy 2 to accounts payable department, copy 3 to inventory control department, copy 4 to warehouse, and copy 5 filed for reference.
Receiving Report (Form RR). The warehouse department prepares this document when ordered items are received from vendors. A receiving clerk completes the document by indicating the vendor’s name, the date the shipment is received, and the quantity of each item received. Four copies of the report are prepared. Copy 1 is sent to the accounts payable department, copy 2 to the purchasing department, and copy 3 to the inventory control department; Copy 4 is retained by the warehouse department, compared with the purchase order form in its files, and filed together with this purchase order form for future reference.
Invoices. Invoices received from vendors are bills for payment. The vendor prepares several copies of each invoice, but only two copies are of concern to the Berridge Company: the copy that is received by the company’s accounts payable department and the copy that is retained by the vendor for reference. The accounts payable department compares the vendor invoice with its file copy of the original purchase order and its file copy of the warehouse receiving report. Based on this information, adjustments to the bill amount on the invoice are made (e.g., for damaged goods, for trade discounts, or for cash discounts),a check is prepared, and the payment is mailed to the vendor.
Requirements 1. Draw a document flowchart for the Berridge Company using the symbols in .
2. Could the company eliminate one or more copies of its RSR form? Use your flowchart to explain why or why not.
3. Do you think that the company creates too many copies of its purchase orders? Why or why not?
Carly Riccardi and her mother Nancy own and operate FreezeTime, Inc., a company specializing in freeze drying flowers from clients’ memorable events, such as proms and weddings. The company not only freezes the flowers, but also presents them in a variety of display packages. Each of these packages includes materials such as glass and frames that FreezeTime purchases from local suppliers. In addition to supplies for display, the company purchases office supplies and packaging materials from several vendors.
FreezeTime uses a low end accounting software package to prepare documents and reports. As employees note a need for supplies and materials, they inform Carly or Nancy, who act as office manager and company accountant. Either Carly or Nancy enters order information into the accounting system and creates a purchase order that they fax to the supplier. Occasionally, Carly or Nancy will also call the supplier if there is something special about the product ordered. When ordered materials and supplies arrive at FreezeTime’s small factory, either Carly or Nancy checks the goods received against a copy of the purchase order and enters the new inventory into the computer system.
Nancy pays bills twice each month, on the first and the fifteenth. She checks the computer system for invoices outstanding, and verifies that the goods have been received.
She then enters any information needed to produce printed checks from the accounting system. FreezeTime mails checks and printed remittance advices (portions of the vendor bill to be returned) to suppliers.
Requirements
1. Create a systems flowchart for FreezeTime’s purchase and payment process.
2. Comment on the value, if any, that having a systems flowchart describing this process would have to Carly or Nancy.
The Dinteman Company is an industrial machinery and equipment manufacturer with several production departments. The company employs automated and heavy equipment in its production departments. Consequently, Dinteman has a large repair and maintenance department (R&M department) for servicing this equipment. The operating efficiency of the R&M department has deteriorated over the past two years. For example, repair and maintenance costs seem to be climbing more rapidly than other department costs. The assistant controller has reviewed the operations of the R&M department and has concluded that the administrative procedures used since the early days of the department are outmoded due in part to the growth of the company. In the opinion of the assistant controller, the two major causes for the deterioration are an antiquated scheduling system for repair and maintenance work, and the actual cost to distribute the R&M department’s costs to the production departments. The actual costs of the R&M department are allocated monthly to the production departments on the basis of the number of service calls made during each month.
The assistant controller has proposed that a formal work order system be implemented for the R&M department. With the new system, the production departments will submit a service request to the R&M department for the repairs and/or maintenance to be completed, including a suggested time for having the work done. The supervisor of the R&M department will prepare a cost estimate on the service request for the work required (labor and materials) and estimate the amount of time for completing the work on the service request. The R&M supervisor will return the request to the production department that initiated the request. Once the production department approves the work by returning a copy of the service request, the R&M supervisor will prepare a repair and maintenance work order and schedule the job. This work order provides the repair worker with the details of the work to be done and is used to record the actual repair and maintenance hours worked and the materials and supplies used. Production departments will be charged for actual labor hours worked at a predetermined standard rate for the type of work required. The parts and supplies used will be charged to the production departments at cost. The assistant controller believes that only two documents will be required in this new system—a Repair/Maintenance Service Request initiated by the production departments and a Repair/Maintenance Work Order initiated by the R&M department.
Requirements
1. For the Repair/Maintenance Work Order document:
a. Identify the data items of importance to the repair and maintenance department and the production department that should be incorporated into the work order.
b. Indicate how many copies of the work order would be required and explain how each copy would be distributed.
2. Prepare a document flowchart to show how the Repair/Maintenance Service Request and the Repair/Maintenance Work Order should be coordinated and used among the departments of Dinteman Company to request and complete the repair and maintenance work, to provide the basis for charging the production departments for the cost of the completed work, and to evaluate the performance of the repair and maintenance department. Provide explanations in the flowchart as appropriate. (CMA Adapted)
Lois Hale and Associates (Drawing Data Flow Diagrams)
Lois Hale and Associates is amedium size manufacturer of musical equipment. The accounts payable department is located at company headquarters in Asbury Park, New Jersey, and it consists of two full time clerks and one supervisor. They are responsible for processing and paying approximately 800 checks each month. The accounts payable process generally begins with receipt of a purchase order from the purchasing department. The purchase order is held until a receiving report and the vendor’s invoice have been forwarded to accounts payable.
At that time, the purchase order, receiving report, and invoice are matched together by an accounts payable clerk, and payment and journal entry information are input to the computer. Payment dates are designated in the input, and these are based on vendor payment terms. Company policy is to take advantage of any cash discounts offered. If there are any discrepancies among the purchase order, receiving report, and invoice, they are given to the supervisor for resolution. After resolving the discrepancies, the supervisor returns the documents to the appropriate clerk for processing. Once documents are matched and payment information is input, the documents are stapled together and filed in a tickler file by payment date until checks are issued.
When checks are issued, a copy of the check is used as a voucher cover and is affixed to the supporting documentation from the tickler file. The entire voucher is then defaced to avoid duplicate payments. In addition to the check and check copy, other outputs of the computerized accounts payable system are a check register, vendor master list, accrual of open invoices, and a weekly cash requirements forecast.
Calculating Adjusted Income (Sustainable Earnings)
James Hardie Industries Ltd. is an Australian company specializing in building materials. It also has several plants in the USA specializing in producing fibrecement roofing materials. It reported the following financial results on its 1998 income statement:
1998
1997
Total revenues (($bn)
1.29
1.62
Net profit ($m)
41.6
83.0
Abnormals ($m)
(41.7)
31.7
EBIT ($m)
132.0
87.4
EPS
.206
. 131
(Results shown for the 12 months ended March 31, 1998; net profit is after tax and after abnormals.)
Required
a. Calculate adjusted income by eliminating the abnormal items from James Hardie’s reported net profits.
b. Discuss how this adjusted income figure is more useful and more representative than the reported net profits.
c. Discuss the concept of adjusted income as it relates to sustainable earnings or sustainable operating profit for each year.
d. Given the decreasing level of total revenues, explain why you think it is still likely that James Hardie will show an increase in its 1999 net profit.
Answer each of the following independent questions:
a. The return on equity for the Hammond Corporation for the year ended December 31, 1999, is 9%. The owners’ equity balances on December 31, 1998 and 1999 were $180,000 and $200,000, respectively. What is the net income for 1999?
b. The Beachfront Resort Company had the following income statement information:
Sales revenue
$500,000
Gross profit percentage
30%
Net income percentage
5%
What is the cost of goods sold? What is the total operating and other expenses?
c. The return on assets for the Wicker Chair Company is 12%. The average total assets is $230,000 and net income is $20,100. What is interest expense, net of tax? What is gross interest expense if the income tax rate is 25%?
Recording Transactions and Preparing an Income Statement
Spinner Sewing Corporation was incorporated on January 1, 2000. Three investors each invested $150,000 in exchange for $150,000 of common stock of the corporation. The following transactions took place during 2000:
1. Purchased merchandise inventory on account, $200,000.
2. Rent paid on January 2 for a two year period, $48,000.
3. Borrowed $100,000 on March 31 at a 10% annual interest rate for one year.
4. Sold goods at retail, $300,000; half for cash, half on account. The cost of goods sold was $135,000.
5. Paid $120,000 on outstanding bills owed to inventory suppliers.
6. Received $80,000 from receivables customers.
7. Incurred operating expenses of $36,000, of which $14,000 was paid in cash and the balance on account.
Required
a. Record the above transactions, including the initial investment, in the accounting equation. Set up separate account columns for assets, liabilities, and shareholders’ equity.
b. Record the following year end accruals (adjust the figures from part a):
1. Expired portion of prepaid rent
2. Accrued interest expense
3. Accrued income tax. Assume 20% tax rate.
c. Prepare a multiple step income statement for the year ended December 31,
2000.
d. Calculate:
1. Gross profit percentage
2. Operating income percentage
3. Net income percentage
e. Calculate:
1. Return on assets
2. Return on equity
f. Evaluate the performance of the corporation. What other transactions would you typically expect to see?
g. What if the corporation discontinued part of its operations during the year and incurred a loss of $45,000 on the disposal? What impact would this have on the income statement?
Bloomingdales, Inc., reported the following transactions:
1. Purchased $150 of equipment on account. The corporation has over $1 million in assets.
2. Sold merchandise at retail of $150,000 during the year on account. Customers returned $10,000 of merchandise at retail for credit on their accounts. (Ignore cost of goods sold.)
3. Received $40,000 in advance from customers.
4. Recorded annual depreciation of $280,000.
Required
a. Record the above transactions in the accounting equation. Set up separate account columns as needed.
b. Discuss the generally accepted accounting principles that guide accountants in recording each of these transactions properly.
Income Tax Expense and Income Statement Classifications
Amherst Trucking Co. had the following pre tax amounts of revenues, expenses, gains, and losses during 2000. All items are subject to an income tax rate of 40%
Revenues
$1,500,000
Operating expenses
$ 900,000
Extraordinary loss
$ 400,000
Required
a. Determine the firm’s total income tax expense during 2000.
b. What amount would be reported as operating income after tax?
c. What is the amount of tax benefit (tax reduction) associated with the extraordinary loss?
d. What is the net of tax amount of the extraordinary loss?
e. What amount would the firm report as net income for 2000?
The Souvenir Company purchased, on 1 January Year 1, a machine producing embossed souvenir badges. The machine cost £16,000 and was estimated to have a five year life with a residual value of £1,000. Required (a) Prepare a table of depreciation charges and net book value over the five year life using straight line depreciation. (b) Make a guess at the percentage rate to be used in the reducing balance calculation, and prepare a table of depreciation charges and net book value over the five years using reducing balance depreciation. (c) Using the straight line method of depreciation, demonstrate the effect on the accounting equation of selling the asset at the end of Year 5 for a price of £2,500. (d) Using the straight line method of depreciation, demonstrate the effect on the accounting equation of disposing of the asset at the end of Year 5 for a zero scrap value.
A company has a stock of goods consisting of four different groups of items. The cost and net realizable value of each group is shown in the table below.
Group of items
Cost
Net realizable value
£
£
A
1,000
1,400
B
1,000
800
C
2,100
1,900
D
3,000
3,100
Required
Calculate the amount to be shown as the value of the company’s stock.
It is the policy of Seaton Ltd to make provision for doubtful debts at a rate of 10% per annum on all debtor balances at the end of the year, after deducting any known bad debts at the same date. The following table sets out the total receivables (debtors) as shown by the accounting records and known bad debts to be deducted from that total. There is no provision at 31 December Year 0.
Year end
Debtor balances
Known bad debts
£
£
31 Dec. Year 1
30,000
2,000
31 Dec. Year 2
35,000
3,000
31 Dec. Year 3
32,000
1,500
31 Dec. Year 4
29,000
1,000
Required
(a) Calculate the total expense in the income statement (profit and loss account) in respect of bad and doubtful debts.
(b) Set out the balance sheet information in respect of receivables (debtors) and provision for doubtful debts at each year end.
The Washing Machine Repair Company gives a warranty of no cost rectification of unsatisfactory repairs. It has turnover from repair contracts recorded as:
Year
Amount of turnover
£
1
80,000
2
90,000
Based on previous experience the manager makes a provision of 10% of turnover each year for warranty costs. In respect of the work done during years 1 and 2, repairs under warranty are carried out as follows:
Date of repair work
Amount in respect of Year 1 turnover
Amount in respect of Year 2 turnover
Total
£
£
£
1
4,500
4,500
2
3,200
4,800
8,000
3
5,000
5,000
Required
(a) Show how this information would be recorded in the financial statements of the Washing Machine Repair Company.
(b) Explain how the financial statements would appear if the company made no provision for warranty costs but charged them to profit and loss account when incurred.
Explain why each of the following is recognised as a provision in the balance sheet of a telecommunications company:
(a) On 15 December Year 2, the Group announced a major redundancy programme. Provision has been made at 31 December Year 2 for the associated costs. The provision is expected to be utilised within 12 months.
(b) Because of the redundancy programme, some properties have become vacant. Provision has been made for lease payments that cannot be avoided where sub letting is not possible. The provision will be utilised within 15 months.
(c) There is a legal claim against a subsidiary in respect of alleged breach of contract. Provision has been made for this claim. It is expected that the provision will be utilised within 12 months.
Explain why each of the following is reported as a contingent liability but not recognised as a provision in the balance sheet.
(a) Some leasehold properties which the group no longer requires have been sub let to third parties. If the third parties default, the group remains responsible for future rent payments. The maximum liability is £200,000.
(b) Group companies are defendants in the USA in a number of product liability cases related to tobacco products. In a number of these cases, the amounts of compensatory and punitive damages sought are significant.
(c) The Department of Trade and Industry has appointed Inspectors to investigate the company’s flotation ten years ago. The directors have been advised that it is possible that circumstances surrounding the flotation may give rise to claims against the company. At this stage it is not possible to quantify either the probability of success of such claims or of the amounts involved.
Nehru Gupta is the controller at the Acme Shoe Company, a large manufacturing company located in Franklin, Pennsylvania. Acme has many divisions, and the performance of each division has typically been evaluated using a return on investment (ROI) formula. The return on investment is calculated by dividing profit by the book value of total assets.
In a meeting yesterday with Bob Burn, the company president, Nehru warned that this return on investment measure might not be accurately reflecting how well the divisions are doing.
Nehru is concerned that by using profits and the book value of assets, division managers might be engaging in some short term finagling to show the highest possible return. Bob concurred and asked what other numbers they could use to evaluate division performance.
Nehru said, ‘‘I’m not sure, Bob. Net income isn’t a good number for evaluation purposes.
Because we allocate a lot of overhead costs to the divisions on what some managers consider an arbitrary basis, net income won’t work as a performance measure in place of return on investment.’’
Bob told Nehru to give some thought to this problem and report back to him.
Requirements
1. Explain what managers can do in the short run to maximize return on investment as calculated at Acme. What other accounting measures could Acme use to evaluate the performance of its divisional managers?
2. Describe other instances in which accounting numbers might lead to dysfunctional behavior in an organization.
3. Search the Internet and find at least one company that offers an information system (or software) that might help Nehru evaluate his company’s performance.
The participants of such recreational activities as hang gliding, soaring, hiking, rock collecting, or skydiving often create local ‘‘birds of a feather’’ (affinity) organizations.
a. What financial information are such clubs likely to collect and maintain?
b. Assuming that the club keeps manual accounting records, would you consider such systems ‘‘accounting information systems?’’ Why or why not?
c. Assume that the club treasurer of one such organization is in charge of all financial matters, including collecting and depositing member dues, paying vendor invoices, and preparing yearly reports. Do you think that assigning only one person to this job is a good idea? Why or why not?
d. What benefits would you guess might come from computerizing some or all of the club’s financial information, even if there are less than 100 members? For example, do you think that such computerization is likely to be cost effective?
But how much of this information is useful for investment purposes? To help you answer this question, imagine that you have $10,000, which you must invest in the common stock of a publicly held company.
a. Select a company as specified by your instructor and access its online financial reports.
Is the information contained in the reports complete? If not, why not? Is the information contained in these reports sufficient for you to decide whether or not to invest in the company? If not, why not?
b. Now select an online brokerage website such as E*Trade and look up the information of that same company. Does the information provided by the brokerage firm differ from that of the company itself? If so, how? Again, answer the question: Is the information contained in these reports sufficiently detailed and complete for you to decide whether to invest in it?
If not, why not?
c. Access the website of an investment rating service such as Value Line. How does the information on this third site differ from that of the other two? Again, answer the question: ‘‘Is the information contained on the site sufficiently detailed and complete for you to decide whether invest in the stock? If not, why not?’’
d. What do these comparisons tell you about the difference between ‘‘data’’ and ‘‘information?’’
The Annual Report (Communicating Accounting Information)
The annual report is considered by some to be the single most important printed document that companies produce. In recent years, annual reports have become large documents.
They now include such sections as letters to the stockholders, descriptions of the business, operating highlights, financial review, management discussion and analysis, segment reporting, and inflation data as well as the basic financial statements. The expansion has been due in part to a general increase in the degree of sophistication and complexity in accounting standards and disclosure requirements for financial reporting.
The expansion also reflects the change in the composition and level of sophistication of users. Current users include not only stockholders, but financial and securities analysts, potential investors, lending institutions, stockbrokers, customers, employees, and (whether the reporting company likes it or not) competitors. Thus, a report that was originally designed as a device for communicating basic financial information now attempts to meet the diverse needs of an expanding audience.
Users hold conflicting views on the value of annual reports. Some argue that annual reports fail to provide enough information, whereas others believe that disclosures in annual reports have expanded to the point where they create information overload. The futures of most companies depend on acceptance by the investing public and by their customers; therefore, companies should take this opportunity to communicate well defined corporate strategies.
Requirements
1. The goal of preparing an annual report is to communicate information from a company to its targeted users. (a) Identify and discuss the basic factors of communication that must be considered in the presentation of this information. (b) Discuss the communication problems a company faces in preparing the annual report that result from the diversity its users.
2. Select two types of information found in an annual report, other than the financial statements and accompanying footnotes, and describe how they are useful to the users of annual reports.
3. Discuss at least two advantages and two disadvantages of stating well defined corporate strategies in the annual report.
4. Evaluate the effectiveness of annual reports in fulfilling the information needs of the following current and potential users: (a) shareholders, (b) creditors, (c) employees, (d) customers, and (e) financial analysts.
5. Annual reports are public and accessible to anyone, including competitors. Discuss how this affects decisions about what information should be provided in annual reports.
(a) One DVD disk (b) One hard disk (capacity: 160 gigabytes), or (c) Ten CD ROMs 2 20. Brian Fry Products manufactures a variety of machine tools and parts used primarily in industrial tasks. To control production, the company requires the information listed below. Design an efficient record format for Brian Fry Products. a. Order number (4 digits) b. Part number to be manufactured (5 digits) c. Part description (10 characters) d. Manufacturing department (3 digits) e. Number of pieces started (always less than 10,000) f. Number of pieces finished g. Machine number (2 digits) h. Date work started i. Hour work started (use 24 hour system) j. Date work completed k. Hour work completed l. Work standard per hour (3 digits) m. Worker number (5 digits) n. Foreman number (5 digits)
Your state has recently decided to install an RFID system for its toll roads. The current plan is to sell non refundable transponders for $20 and allow users to deposit up to $1,000 in their accounts. To assist the IT personnel, the system’s planners want to develop a list of possible accounting transactions and system responses. Using your skills from earlier accounting classes, what debit and credit entries would you make for each of the following activities? (Feel free to develop your own accounts for this problem.)
a. A user buys a new transponder for $20.
b. A user adds $100 to his account.
c. A user discovers that a data entry clerk charges his credit card $1,000 instead of $100 when adding $100 to his account.
d. An individual leaves the state, turns in his transponder, and wants a cash refund for the $25.75 remaining in his account.
e. A good Samaritan turns in a transponder that he finds on the side of the road. There is a $10 reward for this act, taken from the owner’s account.
Savage Motors sells and leases commercial automobiles, vans, and trucks to customers in southern California. Most of the company’s administrative staff works in the main office.
The company has been in business for 35 years, but only in the last 10 years has the company begun to recognize the benefits of computer training for its employees.
The company president, Arline Savage, is thinking about hiring a training company to give onsite classes. To pursue this option, the company would set up a temporary ‘‘computer laboratory’’ in one of the meeting rooms, and the trainers would spend all day teaching one or more particular types of software. You have been hired as a consultant to recommend what type of training would best meet the firm’s needs.
You begin your task by surveying the three primary corporate departments: sales, operations, and accounting. You find that most employees use their personal computers for only five types of software: (1) word processing, (2) spreadsheets, (3) database, (4) presentations, and (5) accounting. The accompanying table shows your estimates of the total number of hours per week used by each department on each type of software.
Departments(number of employees)
Hour per week
Word processing
Spreadsheet
Database
Presentation
Accounting
Sales(112)
1150
750
900
500
700
Operations(82)
320
2450
650
100
500
Accounting(55)
750
3600
820
250
2500
Requirements
1. Create a spreadsheet illustrating each department’s average use of each application per employee, rounding all averages to one decimal point. For example, the average hours of word processing for the Sales department is 1,150/112 = 10.3 hours.
2. Suppose there were only enough training funds for each department to train employees on only one type of application. What training would you recommend for each department?
3. What is the average number of hours of use of each application for all the employees in the company? What training would you recommend if funds were limited to only training one type of application for the entire company?
4. Using spreadsheet tools, create graphs that illustrate your findings in parts 1 and 2.
Do you think that your graphs or your numbers better ‘‘tell your story?’’
5. What alternatives are there to onsite training? Suggest at least two alternatives and discuss which of your three possibilities you prefer.
Backwater University is a small technical college that is located miles from the nearest town. As a result, most of the students who attend classes there also live in the resident dormitories and purchase one of three types of meal plans. The ‘‘Full Plan’’ entitles a student to eat three meals a day, seven days a week, at any one of the campus’s three dining facilities. The ‘‘Weekday Plan’’ is the same as the Full Plan, but entitles students to eat meals only on weekdays—not weekends. Finally, the ‘‘50 Meal’’ plan entitles students to eat any 50 meals during a given month. Of course, students and visitors can always purchase any given meal for cash.
Because the school administration is anxious to attract and retain students, it allows them to change their meal plans from month to month. This, in fact, is common, as students pick plans that best serve their needs each month. But this flexibility has also created a nightmare at lunch times, when large numbers of students attempt to eat at the dining facilities simultaneously.
In response to repeated student complaints about the long lines that form at lunchtime, Barbara Wright, the Dean of Students, decides to look into the matter and see for herself what is going on. At lunch the next day, she observes that each cashier at the entrance to the dining facilities requires each student to present an ID card, verifies that the picture on the card matches the student presenting it, and then consults a long, hard copy list of students to determine whether the student is eligible for the current meal. A cashier later informs Barbara that these tasks are regrettable, but also mentions that they have become necessary because many students attempt to eat meals that their plans do not allow.
The cashier also mentions that, at present, the current system provides no way of keeping a student from eating two of the same meals at two different dining facilities. Although Barbara thinks that this idea is far fetched, the cashier says that this problem is surprisingly common. Some students do it just as a prank or on a dare, but other students do it to smuggle out food for their friends.
Barbara Wright realizes that one solution to the long lines problem is to simply hire more cashiers. She also recognizes that a computerized system might be an even more cost effective solution. In particular, she realizes that if the current cashiers had some way of identifying each student quickly, the computer system could immediately identify a given student as eligible, or ineligible, for any given meal.
Requirements
1. Suggest two or more ‘‘technology solutions’’ for this problem.
2. What hardware would be required for each solution you named in part 1?
3. What software would be required for each solution you named in part 1? What would this software do?
4. How would you go about showing that your solutions would be more cost effective than simply hiring more cashiers? (You do not have to perform any calculations to answer this question, merely outline your method.)
Bennet National Bank’s credit card department issues a special credit card that permits credit card holders to withdraw funds from the bank’s automated teller machines (ATMs) at any time of the day or night. These machines are actually smart terminals connected to the bank’s central computer. To use them, a bank customer inserts the magnetically encoded card in the automated teller’s slot and types in a unique password on the teller keyboard. If the password matches the authorized code, the customer goes on to indicate, for example, (1) whether a withdrawal from a savings account or a withdrawal from a checking account is desired and (2) the amount of the withdrawal (in multiples of $10). The teller terminal communicates this information to the bank’s central computer and then gives the customer the desired cash. In addition, the automated terminal prints out a hard copy of the transaction for the customer.
To guard against irregularities in the automated cash transaction described, the credit card department has imposed the following restrictions on the use of the credit cards whencustomers make cash withdrawals at ATMs.
1. The correct password must be keyed into the teller keyboard before the cash with drawal is processed.
2. The credit card must be one issued by Bennet National Bank. For this purpose, a special bank code has been encoded as part of the magnetic strip information.
3. The credit card must be current. If the expiration date on the card has already passed at the time the card is used, the card is rejected.
4. The credit card must not be a stolen one. The bank keeps a computerized list of these stolen cards and requires that this list be checked electronically before the withdrawal transaction can proceed.
5. For the purposes of making withdrawals, each credit card can only be used twice on any given day. This restriction is intended to hold no matter what branch bank(s) are visited by the customers.
6. The amount of the withdrawal must not exceed the customer’s account balance.
Requirements
1. What information must be encoded on the magnetic card strip on each Bennet National Bank credit card to permit the computerized testing of thesepolicy restrictions?
2. What tests of these restrictions could be performed at the teller window by a smart terminal and what tests would have to be performed by the bank’s central processing unit and other equipment?
Prado Roberts Manufacturing (What Type of Computer System to Implement?) Prado Roberts Manufacturing is a medium sized company with regional offices in several western states and manufacturing facilities in both California and Nevada. The company performs most of its important data processing tasks, such as payroll, accounting, marketing, and inventory control, on a mainframe computer at corporate headquarters. However, almost all the managers at this company also have micro computers,which they use for such personal productivity tasks as word processing, analyzing budgets (using spreadsheets), and managing the data in small databases.
The IT manager, Tonya Fisher, realizes that there are both advantages and disadvantages of using different types of systems to meet the processing needs of her company. Although she acknowledges that many companies are racing ahead to install microcomputers and client/server systems, she also knows that the corporate mainframe system has provided her company with some advantages that smaller systems cannot match. Tonya knows that American companies annually purchase over $5 billion in used computers, primarily mainframes.
Requirements
1. Identify several advantages and disadvantages of operating a mainframe computer system that is likely to be present at Prado Roberts Manufacturing. Are these advantages and disadvantages likely to parallel those at other manufacturing companies?
2. Identify at least two factors or actions that companies experience or do to prolong the lives of their legacy systems. Are these factors or actions likely to apply to Prado Roberts Manufacturing?
3. Identify several advantages and disadvantages of microcomputer/client server systems.
Would these advantages apply to Prado Roberts Manufacturing? (CMA Adapted)
Draw a document flowchart to depict each of the following situations.
a. An individual from the marketing department of a wholesale company prepares five copies of a sales invoice, and each copy is sent to a different department.
b. The individual invoices from credit sales must temporarily be stored until they can be matched against customer payments at a later date.
c. A batch control tape is prepared along with a set of transactions to ensure completeness of the data.
d. The source document data found on employee application forms are used as input to create new employee records on a computer master file.
e. Delinquent credit customers are sent as many as four different inquiry letters before their accounts are turned over to a collection agency.
f. Physical goods are shipped back to the supplier if they are found to be damaged upon arrival at the receiving warehouse.
g. The data found on employee time cards are keyed onto a hard disk before they are processed by a computer.
h. The data found on employee time cards are first keyed onto a floppy diskette before they are entered into a computer job stream for processing.
i. A document flowchart is becoming difficult to understand because too many lines cross one another. (Describe a solution.)
j. Three people, all in different departments, look at the same document before t is eventually filed in a fourth department.
k. Certain data from a source document are copied into a ledger before the document itself is filed in another department.
E7 19 (Notes Receivable with Unrealistic Interest Rate) On December 31, 2011, Hurly Co. performed environmental consulting services for Cascade Co. Cascade was short of cash, and Hurly Co. agreed to accept a $300,000 zero interest bearing note due December 31, 2013, as payment in full. Cascade is somewhat of a credit risk and typically borrows funds at a rate of 10%. Hurly is much more creditworthy and has various lines of credit at 6%.
Instructions
(a) Prepare the journal entry to record the transaction of December 31, 2011, for the Hurly Co.
(b) Assuming Hurly Co.’s fiscal year end is December 31, prepare the journal entry for December 31, 2012.
(c) Assuming Hurly Co.’s fiscal year end is December 31, prepare the journal entry for December 31, 2013.
(d) Assume that Hurly Co. elects the fair value option for this note. Prepare the journal entry at December 31, 2012, if the fair value of the note is $295,000.
E7 22 (Petty Cash) McMann, Inc. decided to establish a petty cash fund to help ensure internal control over its small cash expenditures. The following information is available for the month of April.
1. On April 1, it established a petty cash fund in the amount of $200.
2. A summary of the petty cash expenditures made by the petty cash custodian as of April 10 is as follows.
Delivery charges paid on merchandise purchased
$60
Supplies purchased and used
25
Postage expense
40
I.O.U. from employees
17
Miscellaneous expense
36
The petty cash fund was replenished on April 10. The balance in the fund was $12.
3. The petty cash fund balance was increased $100 to $300 on April 20.
Instructions
Prepare the journal entries to record transactions related to petty cash for the month of April.
P7 1 (Determine Proper Cash Balance) Francis Equipment Co. closes its books regularly on December 31, but at the end of 2012 it held its cash book open so that a more favorable balance sheet could be prepared for credit purposes. Cash receipts and disbursements for the first 10 days of January were recorded as December transactions. The information is given below.
1. January cash receipts recorded in the December cash book totaled $45,640, of which $28,000 represents cash sales, and $17,640 represents collections on account for which cash discounts of $360 were given.
2. January cash disbursements recorded in the December check register liquidated accounts payable of $22,450 on which discounts of $250 were taken.
3. The ledger has not been closed for 2012.
4. The amount shown as inventory was determined by physical count on December 31, 2012. The company uses the periodic method of inventory.
Instructions
(a) Prepare any entries you consider necessary to correct Francis’s accounts at December 31.
(b) To what extent was Francis Equipment Co. able to show a more favorable balance sheet at December 31 by holding its cash book open? (Compute working capital and the current ratio.) Assume that the balance sheet that was prepared by the company showed the following amounts:
P7 3 (Bad Debt Reporting—Aging) Manilow Corporation operates in an industry that has a high rate of bad debts. Before any year end adjustments, the balance in Manilow’s Accounts Receivable account was $555,000 and the Allowance for Doubtful Accounts had a credit balance of $40,000. The year end balance reported in the balance sheet for Allowance for Doubtful Accounts will be based on the aging schedule shown below.
Days Account Outstanding
Amount
Probability of Collection
Less than 16 days
$300,000
.98
Between 16 and 30 days
100,000
.90
Between 31 and 45 days
80,000
.85
Between 46 and 60 days
40,000
.80
Between 61 and 75 days
20,000
.55
Over 75 days
15,000
.00
Instructions
(a) What is the appropriate balance for Allowance for Doubtful Accounts at year end?
(b) Show how accounts receivable would be presented on the balance sheet.
(c) What is the dollar effect of the year end bad debt adjustment on the before tax income? (CMA adapted)
P7 4 (Bad Debt Reporting) From inception of operations to December 31, 2012, Fortner Corporation provided for uncollectible accounts receivable under the allowance method: provisions were made monthly at 2% of credit sales; bad debts written off were charged to the allowance account; recoveries of bad debts previously written off were credited to the allowance account; and no year end adjustments to the allowance account were made. Fortner’s usual credit terms are net 30 days. The balance in Allowance for Doubtful Accounts was $130,000 at January 1, 2012. During 2012, credit sales totaled $9,000,000, interim provisions for doubtful accounts were made at 2% of credit sales, $90,000 of bad debts were written off, and recoveries of accounts previously written off amounted to $15,000.
Fortner installed a computer system in November 2012, and an aging of accounts receivable was prepared for the first time as of December 31, 2012. A summary of the aging is as follows.
Classification by Month of Sale
Balance in Each Category
Estimated % Uncollectible
November–December 2012
$1,080,000
2%
July–October
650,000
10%
January–June
420,000
25%
Prior to 1/1/12
150,000
80%
$2,300,000
Based on the review of collectibility of the account balances in the “prior to 1/1/12” aging category, additional receivables totaling $60,000 were written off as of December 31, 2012. The 80% uncollectible estimate applies to the remaining $90,000 in the category. Effective with the year ended December 31, 2012, Fortner adopted a different method for estimating the allowance for doubtful accounts at the amount indicated by the year end aging analysis of accounts receivable.
Instructions
(a) Prepare a schedule analyzing the changes in Allowance for Doubtful Accounts for the year ended December 31, 2012 Show supporting computations in good form. (Hint: In computing the 12/31/12 allowance, subtract the $60,000 write off).
(b) Prepare the journal entry for the year end adjustment to the Allowance for Doubtful Accounts balance as of December 31, 2012.
P7 6 (Journalize Various Accounts Receivable Transactions) The balance sheet of Stansky Company at December 31, 2012, includes the following.
Notes receivable
$ 36,000
Accounts receivable
182,100
Less: Allowance for doubtful accounts
17,300
200,800
Transactions in 2012 include the following.
1. Accounts receivable of $138,000 was collected including accounts of $60,000 on which 2% sales discounts were allowed.
2. $5,300 was received in payment of an account which was written off the books as worthless in 2012.
3. Customer accounts of $17,500 were written off during the year.
4. At year end, Allowance for Doubtful Accounts was estimated to need a balance of $20,000. This estimate is based on an analysis of aged accounts receivable. Instructions
Prepare all journal entries necessary to reflect the transactions above.
P7 7 (Assigned Accounts Receivable—Journal Entries) Salen Company finances some of its current operations by assigning accounts receivable to a finance company. On July 1, 2012, it assigned, under guarantee, specific accounts amounting to $150,000. The finance company advanced to Salen 80% of the accounts assigned (20% of the total to be withheld until the finance company has made its full recovery), less a finance charge of ½% of the total accounts assigned.
On July 31, Salen Company received a statement that the finance company had collected $80,000 of these accounts and had made an additional charge of ½% of the total accounts outstanding as of July 31. This charge is to be deducted at the time of the first remittance due Salen Company from the finance company. (Hint: Make entries at this time.) On August 31, 2012, Salen Company received a second statement from the finance company, together with a check for the amount due. The statement indicated that the finance company had collected an additional $50,000 and had made a further charge of ½% of the balance outstanding as of August 31.
Instructions
Make all entries on the books of Salen Company that are involved in the transactions above.
P7 10 Braddock Inc. had the following long term receivable account balances at December 31, 2011.
Note receivable from sale of division
$1,500,000
Note receivable from officer
400,000
Transactions during 2012 and other information relating to Braddock’s long term receivables were as follows.
1. The $1,500,000 note receivable is dated May 1, 2011, bears interest at 9%, and represents the balance of the consideration received from the sale of Braddock’s electronics division to New York Company. Principal payments of $500,000 plus appropriate interest are due on May 1, 2012, 2013, and 2014. The first principal and interest payment was made on May 1, 2012. Collection of the note installments is reasonably assured.
2. The $400,000 note receivable is dated December 31, 2011, bears interest at 8%, and is due on December 31, 2014. The note is due from Sean May, president of Braddock Inc. and is collateralized by 10,000 shares of Braddock’s common stock. Interest is payable annually on December 31, and all interest payments were paid on their due dates through December 31, 2012. The quoted market price of Braddock’s common stock was $45 per share on December 31, 2012.
3. On April 1, 2012, Braddock sold a patent to Pennsylvania Company in exchange for a $100,000 zerointerest bearing note due on April 1, 2014. There was no established exchange price for the patent, and the note had no ready market. The prevailing rate of interest for a note of this type at April 1, 2012, was 12%. The present value of $1 for two periods at 12% is 0.797 (use this factor). The patent had a carrying value of $40,000 at January 1, 2012, and the amortization for the year ended December 31, 2012, would have been $8,000. The collection of the note receivable from Pennsylvania is reasonably assured.
4. On July 1, 2012, Braddock sold a parcel of land to Splinter Company for $200,000 under an installment sale contract. Splinter made a $60,000 cash down payment on July 1, 2012, and signed a 4 year 11% note for the $140,000 balance. The equal annual payments of principal and interest on the note will be $45,125 payable on July 1, 2013, through July 1, 2016. The land could have been sold at an established cash price of $200,000. The cost of the land to Braddock was $150,000. Circumstances are such that the collection of the installments on the note is reasonably assured.
Instructions
(a) Prepare the long term receivables section of Braddock’s balance sheet at December 31, 2012.
(b) Prepare a schedule showing the current portion of the long term receivables and accrued interest receivable that would appear in Braddock’s balance sheet at December 31, 2012.
(c) Prepare a schedule showing interest revenue from the long term receivables that would appear on Braddock’s income statement for the year ended December 31, 2012.
P7 11 (Income Effects of Receivables Transactions) Sandburg Company requires additional cash for its business. Sandburg has decided to use its accounts receivable to raise the additional cash and has asked you to determine the income statement effects of the following contemplated transactions.
1. On July 1, 2012, Sandburg assigned $400,000 of accounts receivable to Keller Finance Company. Sandburg received an advance from Keller of 80% of the assigned accounts receivable less a commission of 3% on the advance. Prior to December 31, 2012, Sandburg collected $220,000 on the assigned accounts receivable, and remitted $232,720 to Keller, $12,720 of which represented interest on the advance from Keller.
2. On December 1, 2012, Sandburg sold $300,000 of net accounts receivable to Winch Company for $270,000. The receivables were sold outright on a without recourse basis.
3. On December 31, 2012, an advance of $120,000 was received from First Bank by pledging $160,000 of Sandburg’s accounts receivable. Sandburg’s first payment to First Bank is due on January 30, 2013.
Instructions
Prepare a schedule showing the income statement effects for the year ended December 31, 2012, as a result of the above facts
P7 13 (Bank Reconciliation and Adjusting Entries) The cash account of Aguilar Co. showed a ledger balance of $3,969.85 on June 30, 2012. The bank statement as of that date showed a balance of $4,150. Upon comparing the statement with the cash records, the following facts were determined.
1. There were bank service charges for June of $25.
2. A bank memo stated that Bao Dai’s note for $1,200 and interest of $36 had been collected on June 29, and the bank had made a charge of $5.50 on the collection. (No entry had been made on Aguilar’s books when Bao Dai’s note was sent to the bank for collection.)
3. Receipts for June 30 for $3,390 were not deposited until July 2.
4. Checks outstanding on June 30 totaled $2,136.05.
5. The bank had charged the Aguilar Co.’s account for a customer’s uncollectible check amounting to $253.20 on June 29.
6. A customer’s check for $90 had been entered as $60 in the cash receipts journal by Aguilar on June 15.
7. Check no. 742 in the amount of $491 had been entered in the cash journal as $419, and check no. 747 in the amount of $58.20 had been entered as $582. Both checks had been issued to pay for purchases of equipment.
Instructions
(a) Prepare a bank reconciliation dated June 30, 2012, proceeding to a correct cash balance.
(b) Prepare any entries necessary to make the books correct and complete.
P7 15 (Loan Impairment Entries) On January 1, 2012, Botosan Company issued a $1,200,000, 5 year, zerointerest bearing note to National Organization Bank. The note was issued to yield 8% annual interest. Unfortunately, during 2013 Botosan fell into financial trouble due to increased competition. After reviewing all available evidence on December 31, 2013, National Organization Bank decided that the loan was impaired. Botosan will probably pay back only $800,000 of the principal at maturity.
Instructions
(a) Prepare journal entries for both Botosan Company and National Organization Bank to record the issuance of the note on January 1, 2012.
(b) Assuming that both Botosan Company and National Organization Bank use the effective interest method to amortize the discount, prepare the amortization schedule for the note.
(c) Under what circumstances can National Organization Bank consider Botosan’s note to be impaired?
(d) Compute the loss National Organization Bank will suffer from Botosan’s financial distress on December 31, 2013. What journal entries should be made to record this loss?
The following extracts are typical of the annual reports of large listed companies. Which of these extracts satisfy the definition of ‘accounting’? What are the user needs that are most closely met by each extract?
(a) Suggestions for improvements were made by many employees, alone or in teams. Annual savings which have been achieved total £15m. The best suggestion for improvement will save around £0.3m per year for the next five years.
(b) As of 31 December, 3,000 young people were learning a trade or profession with the company. This represents a studentship rate of 3.9%. During the reporting period we hired 1,300 young people into training places. This is more than we need to satisfy our employment needs in the longer term and so we are contributing to improvement of the quality of labor supplied to the market generally.
(c) During the year to 31 December our turnover (sales) grew to £4,000 million compared to £2,800 million last year. Our new subsidiary contributed £1,000 million to this increase.
(d) It is our target to pay our suppliers within 30 days. During the year we achieved an average payment period of 33 days.
(e) The treasury focus during the year was on further refinancing of the group’s borrowings to minimise interest payments and reduce risk.
(f ) Our plants have emission rates that are 70% below the national average for sulphur dioxide and 20% below the average for oxides of nitrogen. We will tighten emissions significantly over the next ten years.
Explain how you would class each of the following – as a sole trader, partnership or limited company. List any further questions you might ask for clarification about the nature of the business.
(a) Miss Jones works as an interior decorating adviser under the business name ‘U decide’. She rents an office and employs an administrative assistant to answer the phone, keep files and make appointments.
(b) George and Jim work together as painters and decorators under the business name ‘Painting Partners Ltd’. They started the business ten years ago and work from a rented business unit on a trading estate.
(c) Jenny and Chris own a hotel jointly. They operate under the business name ‘Antler Hotel Company’ and both participate in the running of the business. They have agreed to share profits equally.
John Timms is the sole owner of Sunshine Wholesale Traders, a company which buys fruit from farmers and sells it to supermarkets. All goods are collected from farms and delivered to supermarkets on the same day, so no inventories (stocks) of fruit are held. The accounting records of Sunshine Traders at 30 June Year 2, relating to the year then ended, have been summarized by John Timms as follows:
£
Fleet of delivery vehicles, after deducting depreciation
35,880
Furniture and fittings, after deducting depreciation
18,800
Trade receivables
34,000
Bank deposit
19,000
Trade payables (creditors)
8,300
Sales
294,500
Cost of goods sold
188,520
Wages and salaries
46,000
Transport costs
14,200
Administration costs
1,300
Depreciation of vehicles, furniture and fittings
1,100
Required
(a) Identify each item in the accounting records as either an asset, a liability, or ownership interest (identifying separately the expenses and revenues which contribute to the change in the ownership interest).
(b) Prepare a balance sheet at 30 June Year 2.
(c) Prepare a profit and loss statement for the year ended 30 June Year 2.
The following list of transactions relates to a television repair business during the first month of business. Explain how each transaction affects the accounting equation
(a) Owner puts cash into the business.
(b) Buy a vehicle for cash.
(c) Receive a bill for electricity consumed.
(d) Purchase stationery for office use, paying cash.
(e) Pay the electricity bill in cash.
(f ) Pay rental for a computer, used to keep customer records.
(g) Buy spare parts for cash, to use in repairs.
(h) Buy spare parts on credit terms.
(i) Pay garage service bills for van, using cash.
( j) Fill van with petrol, using credit account at local garage, to be paid at the start of next month.
The Biscuit Manufacturing Company commenced business on 1 January Year 1 with capital of £22,000 contributed by the owner. It immediately paid cash for a biscuit machine costing £22,000. It was estimated to have a useful life of four years and at the end of that time was estimated to have a residual value of £2,000. During each year of operation of the machine, the company collected £40,000 in cash from sale of biscuits and paid £17,000 in cash for wages, ingredients and running costs. Required (a) Prepare spreadsheets for each of the four years analysing the transactions and events of the company. (b) Prepare a balance sheet at the end of Year 3 and an income statement (profit and loss account) for that year. (c) Explain to a non accountant how to read and understand the balance sheet and income statement (profit and loss account) you have prepared.
Indicate whether each of the following statements constitutes a potential advantage (A), disadvantage (D), or neither (N) of using transfer prices for service department costs.
a. Can make a service department into a profit center
b. Can reduce goal congruence
c. Can make users and providers more cost conscious
d. Can increase resource waste
e. Can increase disagreements among departments
f. Can put all service departments on an equal footing
g. Can cause certain services to be under or over utilized
h. Can improve ability to evaluate performance
i. Can increase communication about what additional services are needed and which may be reduced or eliminated
j. Can require additional organizational data and employee time
B291 TMA 2 ….doc
FSA Project 5….xlsx
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Q1 1.pdf