PROBLEMS
P22-1 (L01) (Change in Principle—Inventory—Periodic) The management of Utrillo Instrument Company had concluded, with the concurrence of its independent auditors, that results of operations would be more fairly presented if Utrillo changed its method of pricing inventory from last-in, first-out (LIFO) to average-cost in 2017. Given below is the 5-year summary of income under LIFO and a schedule of what the inventories would be if stated on the average-cost method...
Instructions
Prepare comparative statements for the 5 years, assuming that Utrillo changed its method of inventory pricing to average-cost. Indicate the effects on net income and earnings per share for the years involved. Utrillo Instruments started business in 2012. (All amounts except EPS are rounded up to the nearest dollar.)
P22-2 (L01,2,3) EXCEL GROUPWORK (Change in Estimate and Error Correction) Holtzman Company is in the process of preparing its financial statements for 2017. Assume that no entries for depreciation have been recorded in 2017. The following information related to depreciation of fixed assets is provided to you.
1. Holtzman purchased equipment on January 2, 2014, for $85,000. At that time, the equipment had an estimated useful life of 10 years with a $5,000 salvage value. The equipment is depreciated on a straight-line basis. On January 2, 2017, as a result of additional information, the company determined that the equipment has a remaining useful life of 4 years with a $3,000 salvage value.
2. During 2017, Holtzman changed from the double-declining-balance method for its building to the straight-line method.
The building originally cost $300,000. It had a useful life of 10 years and a salvage value of $30,000. The following computations present depreciation on both bases for 2015 and 2016.
3. Holtzman purchased a machine on July 1, 2015, at a cost of $120,000. The machine has a salvage value of $16,000 and a useful life of 8 years. Holtzman’s bookkeeper recorded straight-line depreciation in 2015 and 2016 but failed to consider the salvage value.
Instructions
(a) Prepare the journal entries to record depreciation expense for 2017 and correct any errors made to date related to the information provided. (Ignore taxes.)
(b) Show comparative net income for 2016 and 2017. Income before depreciation expense was $300,000 in 2017, and was $310,000 in 2016. (Ignore taxes.)
P22-3 (L01,2,3) (Comprehensive Accounting Change and Error Analysis Problem) Botticelli Inc. was organized in late 2015 to manufacture and sell hosiery. At the end of its fourth year of operation, the company has been fairly successful, as indicated by the following reported net incomes.
…
The company has decided to expand operations and has applied for a sizable bank loan. The bank officer has indicated that the records should be audited and presented in comparative statements to facilitate analysis by the bank. Botticelli Inc. therefore hired the auditing firm of Check & Doublecheck Co. and has provided the following additional information.
1. In early 2016, Botticelli Inc. changed its estimate from 2% of sales to 1% on the amount of bad debt expense to be charged to operations. Bad debt expense for 2015, if a 1% rate had been used, would have been $10,000. The company therefore restated its net income for 2015.
2. In 2018, the auditor discovered that the company had changed its method of inventory pricing from LIFO to FIFO. The effect on the income statements for the previous years is as follows…
Instructions
(a) Indicate how each of these changes or corrections should be handled in the accounting records. (Ignore income tax considerations.)
(b) Present net income as reported in comparative income statements for the years 2015 to 2018.
P22-4 (L01,2,3) (Error Corrections and Accounting Changes) Penn Company is in the process of adjusting and correcting its books at the end of 2017. In reviewing its records, the following information is compiled.
1. Penn has failed to accrue sales commissions payable at the end of each of the last 2 years, as follows.
December 31, 2016 $3,500
December 31, 2017 $2,500
2. In reviewing the December 31, 2017, inventory, Penn discovered errors in its inventory-taking procedures that have caused inventories for the last 3 years to be incorrect, as follows.
December 31, 2015 Understated $16,000
December 31, 2016 Understated $19,000
December 31, 2017 Overstated $ 6,700
Penn has already made an entry that established the incorrect December 31, 2017, inventory amount.
3. At December 31, 2017, Penn decided to change the depreciation method on its office equipment from double-decliningbalance to straight-line. The equipment had an original cost of $100,000 when purchased on January 1, 2015. It has a 10- year useful life and no salvage value. Depreciation expense recorded prior to 2017 under the double-declining-balance method was $36,000. Penn has already recorded 2017 depreciation expense of $12,800 using the double-declining-balance method.
4. Before 2017, Penn accounted for its income from long-term construction contracts on the completed-contract basis. Early in 2017, Penn changed to the percentage-of-completion basis for accounting purposes. It continues to use the completedcontract method for tax purposes. Income for 2017 has been recorded using the percentage-of-completion method. The following information is available.
…
Instructions
Prepare the journal entries necessary at December 31, 2017, to record the above corrections and changes. The books are still open for 2017. The income tax rate is 40%. Penn has not yet recorded its 2017 income tax expense and payable amounts so current-year tax effects may be ignored. Prior-year tax effects must be considered in item 4.
P22-5 (L02) GROUPWORK ETHICS (Accounting Changes) Aston Corporation performs year-end planning in November of each year before its calendar year ends in December. The preliminary estimated net income is $3 million. The CFO, Rita Warren, meets with the company president, J. B. Aston, to review the projected numbers. She presents the following projected information...
Instructions
(a) What can Warren do within GAAP to accommodate the president’s wishes to achieve $7,000,000 in income before taxes and bonus? Present the revised income statement based on your decision.
(b) Are the actions ethical? Who are the stakeholders in this decision, and what effect do Warren’s actions have on their interests?
P22-6 (L01,3,4) EXCEL (Accounting Change and Error Analysis) On December 31, 2017, before the books were closed, the management and accountants of Madrasa Inc. made the following determinations about three pieces of equipment.
1. Equipment A was purchased January 2, 2014. It originally cost $540,000 and, for depreciation purposes, the straight-line method was originally chosen. The asset was originally expected to be useful for 10 years and have a zero salvage value.
In 2017, the decision was made to change the depreciation method from straight-line to sum-of-the-years’-digits, and the estimates relating to useful life and salvage value remained unchanged.
2. Equipment B was purchased January 3, 2013. It originally cost $180,000 and, for depreciation purposes, the straight-line method was chosen. The asset was originally expected to be useful for 15 years and have a zero residual value. In 2017, the decision was made to shorten the total life of this asset to 9 years and to estimate the residual value at $3,000.
3. Equipment C was purchased January 5, 2013. The asset’s original cost was $160,000, and this amount was entirely expensed in 2013. This particular asset has a 10-year useful life and no residual value. The straight-line method was chosen for depreciation purposes.
Additional data:
1. Income in 2017 before depreciation expense amounted to $400,000.
2. Depreciation expense on assets other than A, B, and C totaled $55,000 in 2017.
3. Income in 2016 was reported at $370,000.
4. Ignore all income tax effects.
5. 100,000 shares of common stock were outstanding in 2016 and 2017.
Instructions
(a) Prepare all necessary entries in 2017 to record these determinations.
(b) Prepare comparative retained earnings statements for Madrasa Inc. for 2016 and 2017. The company had retained earnings of $200,000 at December 31, 2015.
P22-7 (L03,4) GROUPWORK (Error Corrections) You have been assigned to examine the financial statements of Zarle Company for the year ended December 31, 2017. You discover the following situations.
1. Depreciation of $3,200 for 2017 on delivery vehicles was not recorded.
2. The physical inventory count on December 31, 2016, improperly excluded merchandise costing $19,000 that had been temporarily stored in a public warehouse. Zarle uses a periodic inventory system.
3. A collection of $5,600 on account from a customer received on December 31, 2017, was not recorded until January 2, 2018.
4. In 2017, the company sold for $3,700 fully depreciated equipment that originally cost $25,000. The company credited the proceeds from the sale to the Equipment account.
5. During November 2017, a competitor company filed a patent-infringement suit against Zarle claiming damages of $220,000. The company’s legal counsel has indicated that an unfavorable verdict is probable and a reasonable estimate of the court’s award to the competitor is $125,000. The company has not reflected or disclosed this situation in the financial statements.
6. Zarle has a portfolio of trading investments. No entry has been made to adjust to market. Information on cost and fair value is as follows.
Cost Fair Value
December 31, 2016 $95,000 $95,000
December 31, 2017 $84,000 $82,000
7. At December 31, 2017, an analysis of payroll information shows accrued salaries of $12,200. The Salaries and Wages Payable account had a balance of $16,000 at December 31, 2017, which was unchanged from its balance at December 31, 2016.
8. A large piece of equipment was purchased on January 3, 2017, for $40,000 and was charged to Maintenance and Repairs Expense. The equipment is estimated to have a service life of 8 years and no residual value. Zarle normally uses the straight-line depreciation method for this type of equipment.
9. A $12,000 insurance premium paid on July 1, 2016, for a policy that expires on June 30, 2019, was charged to insurance expense.
10. A trademark was acquired at the beginning of 2016 for $50,000. No amortization has been recorded since its acquisition. The maximum allowable amortization period is 10 years.
Instructions
Assume the trial balance has been prepared but the books have not been closed for 2017. Assuming all amounts are material, prepare journal entries showing the adjustments that are required. (Ignore income tax considerations.)
P22-8 (L03,4) GROUPWORK (Comprehensive Error Analysis) On March 5, 2018, you were hired by Hemingway Inc., a closely held company, as a staff member of its newly created internal auditing department. While reviewing the company’s records for 2016 and 2017, you discover that no adjustments have yet been made for the following items...
Instructions
Indicate the effect of any errors on the net income figure reported on the income statement for the year ending December 31, 2016, and the retained earnings figure reported on the balance sheet at December 31, 2017. Assume all amounts are material, and ignore income tax effects. Using the following format, enter the appropriate dollar amounts in the appropriate columns.
Consider each item independent of the other items. It is not necessary to total the columns on the grid.
…(CIA adapted)
P22-9 (L03,4) (Error Analysis) Lowell Corporation has used the accrual basis of accounting for several years. A review of the records, however, indicates that some expenses and revenues have been handled on a cash basis because of errors made by an inexperienced bookkeeper. Income statements prepared by the bookkeeper reported $29,000 net income for 2016 and $37,000 net income for 2017. Further examination of the records reveals that the following items were handled improperly.
1. Rent was received from a tenant in December 2016. The amount, $1,000, was recorded as revenue at that time even though the rental pertained to 2017.
2. Salaries and wages payable on December 31 have been consistently omitted from the records of that date and have been entered as expenses when paid in the following year. The amounts of the accruals recorded in this manner were:
December 31, 2015 $1,100
December 31, 2016 1,200
December 31, 2017 940
3. Invoices for supplies purchased have been charged to expense accounts when received. Inventories of supplies on hand at the end of each year have been ignored, and no entry has been made for them.
December 31, 2015 $1,300
December 31, 2016 940
December 31, 2017 1,420
Instructions
Prepare a schedule that will show the corrected net income for the years 2016 and 2017. All items listed should be labeled clearly.
(Ignore income tax considerations.)
P22-10 (L03,4) (Error Analysis and Correcting Entries) You have been asked by a client to review the records of Roberts anufacturer of precision tools and machines. Your client is interested in buying the business, and arrangements have been made for you to review the accounting records. Your examination reveals the following information.
1. Roberts Company commenced business on April 1, 2015, and has been reporting on a fiscal year ending March 31. The company has never been audited, but the annual statements prepared by the bookkeeper reflect the following income before closing and before deducting income taxes...
2. A relatively small number of machines have been shipped on consignment. These transactions have been recorded as ordinary sales and billed as such. On March 31 of each year, machines billed and in the hands of consignees amounted to:…
Sales price was determined by adding 25% to cost. Assume that the consigned machines are sold the following year.
3. On March 30, 2017, two machines were shipped to a customer on a C.O.D. basis. The sale was not entered until April 5, 2017, when cash was received for $6,100. The machines were not included in the inventory at March 31, 2017. (Title passed on March 30, 2017.)
4. All machines are sold subject to a 5-year warranty. It is estimated that the expense ultimately to be incurred in connection with the warranty will amount to ½ of 1% of sales. The company has charged an expense account for warranty costs incurred. Sales per books and warranty costs were as follows...
5. Bad debts have been recorded on a direct write-off basis. Experience of similar enterprises indicates that losses will approximate 1% of receivables. Bad debts written off were:…
6. The bank deducts 6% on all contracts financed. Of this amount, ½% is placed in a reserve to the credit of Roberts Company that is refunded to Roberts as finance contracts are paid in full. (Thus, Roberts should have a receivable for these payments and should record revenue when the net balance is remitted each year.) The reserve established by the bank has not been reflected in the books of Roberts. The excess of credits over debits (net increase) to the reserve account with Roberts on the books of the bank for each fiscal year were as follows....
7. Commissions on sales have been entered when paid. Commissions payable on March 31 of each year were as follows…
8. A review of the corporate minutes reveals the manager is entitled to a bonus of 1% of the income before deducting income taxes and the bonus. The bonuses have never been recorded or paid.
Instructions
(a) Present a schedule showing the revised income before income taxes for each of the years ended March 31, 2016, 2017, and 2018. (Make computations to the nearest whole dollar.)
(b) Prepare the journal entry or entries you would give the bookkeeper to correct the books. Assume the books have not yet been closed for the fiscal year ended March 31, 2018. Disregard correction of income taxes.
(AICPA adapted)
P22-11 (L05) (Fair Value to Equity Method with Goodwill) On January 1, 2017, Millay Inc. paid $700,000 for 10,000 shares of Genso Company’s voting common stock, which was a 10% interest in Genso. At that date, the net assets of Genso totaled $6,000,000. The fair values of all of Genso’s identifiable assets and liabilities were equal to their book values. Millay does not have the ability to exercise significant influence over the operating and financial policies of Genso. Millay received dividends of $1.50 per share from Genso on October 1, 2017. Genso reported net income of $550,000 for the year ended December 31, 2017.
On July 1, 2018, Millay paid $2,325,000 for 30,000 additional shares of Genso Company’s voting common stock which represents a 30% investment in Genso. The fair values of all of Genso’s identifiable assets net of liabilities were equal to their book values of $6,550,000. As a result of this transaction, Millay has the ability to exercise significant influence over the operating and financial policies of Genso. Millay received dividends of $2.00 per share from Genso on April 1, 2018, and $2.50 per share on October 1, 2018. Genso reported net income of $650,000 for the year ended December 31, 2018, and $350,000 for the 6 months ended December 31, 2018.
Instructions
(For both purchases, assume any excess of cost over book value is due to goodwill.)
(a) Prepare a schedule showing the income or loss before income taxes for the year ended December 31, 2017, that Millay should report from its investment in Genso in its income statement issued in March 2018.
(b) During March 2019, Millay issues comparative financial statements for 2017 and 2018. Prepare schedules showing the income or loss before income taxes for the years ended December 31, 2017 and 2018, that Millay should report from its investment in Genso.
(AICPA adapted)
P22-12 (L05) (Change from Fair Value to Equity Method) On January 3, 2016, Martin Company purchased for $500,000 cash a 10% interest in Renner Corp. On that date, the net assets of Renner had a book value of $3,700,000. The excess of cost over the underlying equity in net assets is attributable to undervalued depreciable assets having a remaining life of 10 years from the date of Martin’s purchase.
The fair value of Martin’s investment in Renner securities is as follows:…
Instructions
On the books of Martin Company, prepare all journal entries in 2016, 2017, and 2018 that relate to its investment in Renner Corp., reflecting the data above and a change from the fair value method to the equity method.
