Solutions Guide: Please reword the answers to essay type parts so as to guarantee that
your answer is an original. Do not submit as your own.
1. (TCO A) Cost estimates on a long-term contract may indicate that a loss will result on
completion of the entire contract. In this case, the entire expected loss should be (Points:
10)
Recognized in the current period, regardless of whether the percentage-ofcompletion or completed-contract method is employed.
Recognized in the current period under the percentage-of-completion method,
but the completed-contract method should defer recognition of the loss to the time when
the contract is completed.
Recognized in the current period under the completed-contract method, but the
percentage-of-completion method should defer the loss until the contract is completed.
Deferred and recognized when the contract is completed, regardless of whether
the percentage-of-completion or completed-contract method is employed.
2. (TCO A) Revenue recognition (essay).
The revenue recognition principle provides that revenue is recognized when (1) it is
realized or realizable and (2) it is earned.
Instructions
Explain when revenues are (a) realized, (b) realizable, and (c) earned. Give at least one
example of each.
(Points: 20)
(a) Revenues are realized when goods or services are exchanged for cash or claims
to cash (receivables).
(b) Revenues are realizable when assets received in exchange are readily
convertible to known amounts of cash or claims to cash.
(c) Revenues are earned when the earnings process is complete or virtually
complete.
3. (TCO A) iGAAP for revenue recognition (Points: 10)
is enforced by an international enforcement body, the IASB, which is
comparable to the U.S. SEC.
bases revenue recognition on the concepts of “earned” and “realized or
realizable.”
permits use of the completed-contract method when costs are difficult to estimate.
contains limited industry-specific guidance.
1. (TCO B) Bennington Corporation began operations in 2009. There have been no
permanent or temporary differences to account for since the inception of the business.
The following data are available:
Enacted
Year Tax Rate Taxable Income Taxes Paid
____ _______ _____________ _________
2011 45%
$750,000
$337,500
2012 40%
900,000
360,000
2013 35%
2014 30%
In 2013, Bennington had an operating loss of $930,000. What amount of income tax
benefits should be reported on the 2013 income statement due to this loss?
(Points: 10)
$409,500
$373,500
$372,000
$279,000
($750,000 × .45) + [($930,000 – $750,000) × .40] = $409,500
2. (TCO B) Match the approach, iGAAP or U.S. GAAP, with the location where tax
effects are reported: (Points: 10)
Approach - iGAAP
Location - Charge or credit only taxable temporary differences to income
Approach - U.S. GAAP
Location - Charge or credit certain tax effects to equity
Approach - iGAAP
Location - Charge or credit certain tax effects to equity
Approach - U.S. GAAP
Location - Charge or credit only deductible temporary differences to income
3. (TCO B) Computation of taxable income.
The records for Frish Co. show this data for 2011:
Gross profit on installment sales recorded on the books was $360,000. Gross profit from collections of install
was $270,000.
Life insurance on officers was $2,900.
Machinery was acquired in January for $300,000. Straight-line depreciation over a 10-year life (no salvage v
tax purposes, MACRS depreciation is used and Frish may deduct 14% for 2011.
Interest received on tax exempt Iowa State bonds was $6,000.
The estimated warranty liability related to 2008 sales was $19,600. Repair costs under warranties
during 2011 were $13,600. The remainder will be incurred in 2012.
Pretax financial income is $700,000. The tax rate is 30%.
Instructions
a) Prepare a schedule starting with pretax financial income and compute taxable income.
b) Prepare the journal entry to record income taxes for 2011.
(Points: 20)
(a)
(b)
Pretax financial income
Permanent differences
Life insurance
Tax-exempt interest
Temporary differences
Installment sales ($360,000 – $270,000)
Extra depreciation ($42,000 – $30,000)
Warranties ($19,600 – $13,600)
Taxable income
$700,000
2,900
(6,000)
(90,000)
(12,000)
6,000
$600,900
Income Tax Expense [$180,270 + ($30,600 – $1,800)] ................
Deferred Tax Asset (30% × $6,000) ..............................................
Deferred Tax Liability [30% × ($90,000+$12,000)] .........
Income Tax Payable (30% × $600,900) ............................
209,070
1,800
30,600
180,270
1. (TCO C) The actual return on plan assets (Points: 7)
Is equal to the change in the fair value of the plan assets during the year.
Includes interest, dividends, and changes in the market value of the fund
assets.
Is equal to the actual rate of return times the fair value of the plan assets at the
beginning of the period.
All of these.
2. (TCO C) The IASB and the FASB are studying several issues related to accounting for
pensions including all of the following except
(Points: 8)
eliminating smoothing provisions.
requiring companies to report actual asset returns and any actuarial gains and
losses directly in the income statement.
requiring companies to report various components of pension expense, such as
interest cost, separately in the income statement along with other interest expense.
All of the above issues are under study by the IASB and the FASB.
3. (TCO C) Computing post-retirement expense and APBO.
The following information is related to the post-retirement benefits plan of Heerey, Inc.
for 2011:
Service cost $ 280,000
Discount rate 8%
APBO, January 1, 2011 2,100,000
EPBO, January 1, 2011 2,400,000
Actual return on plan assets in 2011 104,000
Expected return on plan assets in 2011 95,600
Amortization of PSC, due to benefit increase 107,200
Contributions (funding) 400,000
Benefit payments 208,000
Instructions
(a) Compute the amount of post-retirement expense for 2011. (Show computations.)
(b) Compute the amount of the APBO at December 31, 2011.
(Points: 30)
(a)
Service cost
Interest cost (8% × $2,100,000)
Actual return on plan assets
Unexpected gain
Amortization of PSC
Postretirement expense—2011
(b)
APBO, January 1, 2011
Service cost
Interest cost
Benefit payments
APBO, December 31, 2011
$280,000
168,000
(104,000)
8,400
107,200
$459,600
$2,100,000
280,000
168,000
(208,000)
$2,340,000
1. (TCO D) In order to properly record a direct-financing lease, the lessor needs to know
how to calculate the lease receivable. The lease receivable in a direct-financing lease is
best defined as (Points: 10)
The amount of funds the lessor has tied up in the asset which is the subject of the
direct-financing lease.
The difference between the lease payments receivable and the fair market value
of the leased property.
The present value of minimum lease payments.
The total book value of the asset less any accumulated depreciation recorded by
the lessor prior to the lease agreement.
2. (TCO D) Briefly discuss the IASB and FASB efforts to converge their accounting
guidelines for leases.
(Points: 10)
Lease accounting is one of the areas identified in the IASB/FASB Memorandum
of Understanding and also a topic recommended by the SEC in its offbalance-sheet study for standard-setting attention. The joint project will
initially primarily focus on lessee accounting. One of the first areas to be
studied is, “What are the assets and liabilities to be recognized related to a
lease contract?” Should the focus remain on the leased item or the right to
use the leased item? This question is tied to the Boards’ joint project on the
conceptual framework – defining an “asset” and a “liability”.
3. (TCO D) Capital lease amortization and journal entries.
Hughey Co. as lessee records a capital lease of machinery on January 1, 2011. The seven
annual lease payments of $350,000 are made at the end of each year. The present value of
the lease payments at 10% is $1,704,000. Hughey uses the effective-interest method of
amortization and sum-of-the-years'-digits depreciation (no residual value).
Instructions (Round to the nearest dollar.)
(a) Prepare an amortization table for 2011 and 2012.
(b) Prepare all of Hughey's journal entries for 2011.
(Points: 20)
(a)
Date
1/1/11
12/31/11
12/31/12
(b)
Annual
Payments
10% Interest
Reduction
Of Liability
$350,000
350,000
$170,400
152,440
$179,600
197,560
Lease Liability
$1,704,000
1,524,400
1,326,840
Leased Machinery ........................................................................... 1,704,000
Lease Liability ....................................................................
Interest Expense ..............................................................................
Lease Liability ................................................................................
Cash.....................................................................................
170,400
179,600
Depreciation Expense (7/28 × $1,704,000) ....................................
Accumulated Depreciation .................................................
426,000
1,704,000
350,000
426,000
1. (TCO E) Rice Co. purchased machinery that cost $810,000 on January 4, 2006. The
entire cost was recorded as an expense. The machinery has a nine-year life and a $54,000
residual value. The error was discovered on December 20, 2008. Ignore income tax
considerations.
Rice's income statement for the year ended December 31, 2008, should show the
cumulative effect of this error in the amount of (Points: 10)
$726,000.
$642,000.
$558,000.
$0
2. (TCO E) How changes or corrections are recognized.
For each of the following items, indicate the type of accounting change and how each is
recognized in the accounting records in the current year.
(a) Change from straight-line method of depreciation to sum-of-the-years'-digits
(b) Change from the cash basis to accrual basis of accounting
(c) Change from FIFO to LIFO method for inventory valuation purposes (retrospective
application impractical)
(d) Change from presentation of statements of individual companies to presentation of
consolidated statements
(e) Change due to failure to record depreciation in a previous period
(f) Change in the realizability of certain receivables
(g) Change from LIFO to FIFO method for inventory valuation purposes
(Points: 35)
(a) Change in accounting estimate; currently and prospectively.
(b) Correction of an error; restatement of financial statements of all prior periods
presented; adjustment of beginning retained earnings of the current period.
(c) Change in accounting principle; no restatement; base inventory is the opening
inventory of the period of change.
(d) Change in accounting entity; retrospective restatement of financial statements
of all prior periods presented; adjustment of beginning retained earnings of the
current period.
(e) Correction of an error; restatement of financial statements of the period
affected; prior period adjustment; adjustment of beginning retained earnings
of the first period after the error.
(f)
Change in accounting estimate; currently and prospectively.
(g) Change in accounting principle; retrospective restatement of all affected prior
financial statements; adjustment of beginning retained earnings of the current
period.
1. (TCO F) The following information is taken from French Corporation's financial statements:
December 31
2011
2010
$90,000
$ 27,000
92,000
80,000
( 4,500)
( 3,100)
155,000
175,000
7,500
6,800
90,000
60,000
287,000
244,000
( 32,000)
(13,000)
20,000
35,000
Total Assets
$705,000
$611,700
Accounts Payable
$ 90,000
$ 84,000
Accrued Liabilities
54,000
63,000
Bonds Payable
125,000
60,000
Common Stock
100,000
100,000
Retained Earnings - Appropriated
80,000
100,000
Retained Earnings - Unappropriated
271,000
212,700
Treasury Stock, at cost
(15,000)
( 8,000)
Total Liabilities and Equity
$705,000
$611,700
Cash
Accounts Receivable
Allowance for Doubtful Accounts
Inventory
Prepaid Expenses
Land
Buildings
Accumulated Depreciation
Patents
For 2011 Year
Net Income
$58,300
Depreciation Expense
19,000
Amortization of Patents
5,000
Cash dividends declared and paid
Gain or Loss on Sale of Patents
Instructions
20,000
none
Prepare a statement of cash flows for French Corporation for the year 2011. (Use the indirect method.)
(Points: 40)
French Corporation
Statement of Cash Flows
For the Year Ended December 31, 2011
Increase (Decrease) in Cash
Cash flows from operating activities
Net income
Adjust. to reconcile net income to net cash provided
by operating activities:
Depreciation expense
Patent amortization
Increase in accounts receivable
Decrease in inventory
Increase in prepaid expenses
Increase in accounts payable
Decrease in accrued liabilities
$58,300
$19,000
5,000
(10,600)
20,000
(700)
6,000
(9,000)
29,700
Net cash provided by operating activities
Cash flows from investing activities
Purchase of land
Purchase of buildings
Sale of patents
Net cash used by investing activities
Cash flows from financing activities
Sale of bonds
Purchase of treasury stock
Payment of cash dividends
88,000
(30,000)
(43,000)
10,000
(63,000)
65,000
(7,000)
(20,000)
Net cash provided by financing activities
Net increase in cash
Cash, January 1, 2011
Cash, December 31, 2011
38,000
$63,000
27,000
$90,000
1. (TCO G) The required approach for handling extraordinary items in interim reports is
to (Points: 15)
Prorate them over all four quarters.
Prorate them over the current and remaining quarters.
Charge or credit the loss or gain in the quarter that it occurs.
Disclose them only in the notes.
2. (TCO G) Interim reports.
A few years ago, a publishing company in the fourth quarter had a net profit figure that
exceeded sales for that quarter. Such a situation as this suggests that some difficult
accounting issues are involved in interim reporting.
Instructions
(a) What are the major accounting problems related to interim reports?
(b) What problem exists with income taxes in interim reports and how does GAAP
recommend that taxes be reported? What does GAAP require?
(c) Many academicians have attempted to predict the year's net income after the first
quarter's income is reported. These attempts are generally unsuccessful, no matter how
sophisticated the prediction model. What might be the reason for this inability to predict?
(Points: 20)
(a)
The major accounting issues related to interim reporting are the
treatment of (1) extraordinary items, (2) annually determined items such as
income taxes, pension costs, executive compensation based on annual net
income, and (3) the problem of seasonality.
(b) The basic question with income taxes is whether in the preparation of interim
income statements the provision for taxes should reflect the anticipated
effective tax rate for the year or be computed on the basis of actual results for
that interim period. APB Opinion No. 28 recommends that at the end of each
interim period the company should make its best estimate of the effective tax
rate expected to be applicable for the full fiscal year. The rate so determined
should be used in providing for income taxes on a current year-to-date basis.
FASB Interpretation No. 18 requires that the estimated annual effective tax rate
be applied to the year-to-date "ordinary" income at the end of each interim
period to compute the year-to-date tax. Further, the interim period tax related
to ordinary income shall be the difference between the amount so computed
and the amounts reported for previous interim periods of the fiscal period.
(c) The prediction models are probably unsuccessful because accountants have not
treated the problem of seasonality correctly in their interim reports. The
problem with the conventional approach is that fixed nonmanufacturing costs
are not charged in proportion to sales. Rather, these costs are charged as
incurred, or spread evenly over the four quarters. As a result, it is extremely
difficult to make accurate predictions because some artificial concepts are used
for matching purposes.
3. (TCO G) Segment reporting.
A central issue in reporting on operating segments of a business enterprise is the
determination of which segments are reportable.
Instructions
1. What is the test to determine if enough operating segments have been separately
reported upon, and what is the guideline on the maximum number of operating segments
to be shown?
2. What are the tests to determine whether or not an operating segment is reportable?
(Points: 15)
1.
The Financial Accounting Standards Board states that enough operating
segments must be separately reported so that the total of revenues from sales to
unaffiliated customers for the reportable segments equals or exceeds 75 percent
of the combined sales to unaffiliated customers for the entire enterprise. If
applying the prescribed tests does not yield the required percentage of
revenues described above, additional segments must be reported on until the 75
percent test is met.
The Financial Accounting Standards Board has stated that if an enterprise has
many reportable segments, benefit to the reader may be lost if more than 10
segments are reported. In such a situation, the board suggests combining
related reportable segments until the total is ten or fewer.
2.
There are three basic tests to be applied to segments of a company to see if they
are significant enough to be separately reportable. If a segment meets any one
of the tests, it is deemed significant and reportable.
The first test is based upon revenue. If a segment's revenue from sales to
unaffiliated customers and intersegment sales and transfers is equal to 10
percent or more of the enterprise's combined revenues, the segment is
reportable.
The second test is based upon profits or losses. A segment is deemed reportable
if the absolute amount of its profit or loss is 10 percent or more of the greater,
in absolute amount, of:
The combined profits of all operating segments reporting profits.
The combined losses of all operating segments reporting losses.
Third, a segment is significant and reportable if the identifiable assets of the
segment equal or exceed 10 percent of the combined assets of all operating
segments within the enterprise.
Finally, all segments, whether deemed reportable or not, must be viewed from
the standpoint of interperiod comparability because the primary purpose of
presenting segment information is to aid the financial statement reader.