Acct 414, Exam 2, Fall 2007 - University of Idaho · Web viewStraight-line depreciation over a...

Exam #_______

Name: ____________________________________

Exam 2Acct 414 – Corporate Accounting & Reporting II

Fall 2008Show any necessary computations if you want to be eligible for partial credit. Present your work in a neat, well-organized manner. If you are using a PV calculator, spell out what you put in for n, i, PMT, FV, PV, etc. Follow the instructions and answer all parts of the question as directed.

Major Problems (do all three):

Pension Accounting1. Work Paper {FASB No. 158} (45 points) ______________

Earnings Per Share2. Earnings per share (55 points) ______________

Deferred Income Taxes3. Deferred Income Taxes (55 points) ______________

Select three (3) of the following problems:

4. Prior service cost (15 points) ______________

5. One-person pension (15 points) ______________

6. Stock Option Plan (15 points) ______________

7. Construction accounting (15 points) ______________

Maximum = 45 points (I will count the best 3 of 4 if all are attempted)

8. Objective Questions (Extra credit – maximum 10 points)

Total points earned (max = 200)%

If you tear off the working papers, be sure your name is on the top AND that you staple the exam back together in page number order.

Do not attempt extra credit section until all other sections of the exam have been completed.

After Exam 2 - Course GradeTotal Points = __________/__________ = _________%

Quiz and HW percentage = ___________%

Projects percentage = ___________%

Exam 2 – Acct 414 – Fall 2008

This page intentionally left blank – use for scratch paper if needed


1. Pension Accounting (45 points). The Plymouth Rock Corporation initiated a noncontributory defined benefit pension plan on January 1, 1980 and applied the provisions of FASB Statement 87 as of January 1, 1987. FASB Statement No. 158 was implemented as of January 1, 2006. Plymouth Plows uses the straight-line method, based on average remaining service period of employees, to amortize prior service costs.

2008BALANCES AS OF JANUARY 1, 2008Projected Benefit Obligation 900,000 Plan Assets at market 925,000 Funded status 25,000Unrecognized transition cost/(gain) Straight-line amortization at $0 per year - Unrecognized Prior Service Cost 180,000 Straight-line amortization at $15,000 per yearUnrecognized (gains)/losses (128,000)

OTHER INFORMATION: Service cost for year 50,000 Discount rate for year 6.00% Expected rate of return on plan assets 9.00% Actual return on plan assets: gain/(loss) 93,000 Pension plan contribution 50,000 Retirement benefits paid during year 40,000 Average remaining service years related to active employees 15 Increase/(decrease) in PBO during year due to revised actuarial assumptions 27,000

REQUIRED:a. Compute net periodic pension expense for 2008. (Be sure to show all of the components of

pension expense.) Prepare the journal entry needed to record pension expense and funding of pension plan.

b. Compute the balances in accumulated other comprehensive income, projected benefit obligation, and plan assets at 1/1/09

c. Explain (or show) how the net pension obligation or net pension asset will be displayed on the balance sheet at 12/31/08. Will there be other pension related accounts on the balance sheet? If so, show where and how they will be presented. Provide amounts.

Note: Completing all parts of the worksheet provided (including the balance sheet presentation section) will be an acceptable answer

Worksheet is attached to the back of this exam.


2. Earnings per share (60 points).Net income for Cherokee Corp. was $500,000 for 2008. Its tax rate was 30%.

On January 1, 2008 there were 500,000 shares of common stock outstanding. On May 1, 30,000 shares were issued. On August 31, 2008 Cherokee issued a 3-for-1 stock split effected in the form of a stock dividend. On November 1, Cherokee bought 80,000 shares of treasury stock for $54 per share.

There are 150,000 options to buy common stock at $50 a share outstanding. The market price of the common stock averaged $56 during 2008 (both market price and option price have already been adjusted for the stock split).

During 2008, there were 180,000 shares of convertible preferred stock outstanding. The preferred is $100 par, pays $5.00 a year dividend, and is convertible into nine shares of common stock after the stock split.

Cherokee issued $15,000,000 of 8% convertible bonds at face value during 2007. Each $5,000 bond is convertible into 240 shares of common stock after the stock split.

Instructions(a) Compute the weighted average number of common shares outstanding.

Dates Outstanding Adjustment Months Weighted

Weighted average = ____________________________ shares


Problem 2 (continued)Regardless of your answer to (a), assume that the weight average number of common shares outstanding is 1,500,000 for parts (b) and (c). You may use the work paper provided below or formulas but please write your answers in the space provided:

(b) Compute the basic earnings per share for 2008. $_________________________

(c) Compute the diluted earnings per share for 2008. $___________________________

Numerator Denominator Per ShareNet income $2,300,000 1,500,000


4. Income Taxes and Deferred Income Taxes. (55 points)

Stone Co. started business in 2007 and their records show this data for 2007 and 2008:

Pretax accounting income was $450,000 in 2007. Pretax accounting income was $530,000 in 2008.

The enacted tax rate was 30% with a scheduled increase to 32% beginning in 2008.

The 2007 gross profit on installment sales recognized at point of sale per GAAP was $300,000. Gross profit from collections of installment receivables was $220,000 for tax purposes. In 2008, the gross profit for GAAP was $400,000 and the gross profit from collections was $150,000. Installment sales are one-third current and two-thirds noncurrent.

Life insurance on officers was $4,000 both years.

Stone offers a one-year warranty on all of its products. The estimated warranty expense related to 2007 sales was $20,000 with actual repair costs under warranties at $6,000. For 2008 sales, the estimated expense was $31,000 with actual repair costs at $24,000.

Interest received on tax exempt Idaho State bonds was $15,000 in both years.

Machinery was acquired in January for $300,000. Straight-line depreciation over a ten-year life (no salvage value) is used. For tax purposes, MACRS depreciation is used as shown in the following schedule.

2007 2008 2009 2010 2011 TotalFor tax $80,000 $120,000 $75,000 $25,000 0 $300,000For accounting 60,000 60,000 60,000 60,000 60,000 300,000

Instructions(a) Compute taxable income and income tax payable/receivable for the 2007 and 2008.(b) Prepare an inventory of the deferred tax (asset) and liability and determine the net deferred

tax asset or liability as of 12/31/07 and 12/31/08. Stone began operations in 2007 so there were no beginning deferred tax asset or liability at 1/1/07..

(c) Prepare the journal entry to record income tax expense, deferred taxes, and the income taxes payable for 2007.

(d) What amounts will appear on the 2008 balance sheet related to the deferred taxes? Be sure to tell me whether the amount is classified as current or noncurrent.

Show your computations and answers as instructed on the next page.


Answers for Problem 3

(a) Compute taxable income and income tax payable/receivable for the 2007 and 2008. I can grade from workpaper if used

(b) Prepare an inventory of the deferred tax (asset) and liability and determine the net deferred tax asset or liability as of 12/31/07 and 12/31/08. I can grade from workpaper if used

(c) Prepare the journal entry to record income tax expense, deferred taxes, and the income taxes payable for 2007. (Workpaper answer is NOT sufficient for this one!)

(d) What amounts will appear on the 2008 balance sheet related to the deferred taxes? Be sure to tell me whether the amount is classified as current or noncurrent. (Workpaper answer is NOT sufficient for this one!)

Amounts on 12/31/08 balance sheet related to deferred income taxes:


4. Amortization of prior service cost using years-of-service method. (15 points)

On January 1, 2008, Portland Plants Inc. amended its pension plan which caused an increase of $5,750,000 in its projected benefit obligation. The company has 400 employees who are expected to receive benefits under the company's defined benefit pension plan. The personnel department provided the following information regarding expected employee retirements:

Number of Expected Retirements Remaining YearsEmployees On December 31 of Employment

100 2012 5 years150 2017 10 years

50 2022 15 years 100 2027 20 years

400

Instructions(a) What is the average remaining service life?

(b) Using the straight-line method, what would amortization of prior service costs be for 2008?

(c) Using the years-of-service method, what would amortization of prior services costs be for 2018?


5. Time Value of Money (15 points)Eugene Genetics Inc. is establishing a pension plan for its sole employee. She will receive credit for 15 years of prior service and is expected to work 22 years until retirement. After retirement, she should collect pension payments for another 20 years. Her current salary is $80,000 with estimated future pay increases to average 5% per year. What will be the initial amount of projected benefit obligation (i.e., prior service cost) at the inception of the plan if the benefit formula is final year’s annual salary times years of service times 2%? You may assume ordinary annuities and end-of-year annual payments upon retirement and a 6% per annum discount rate.


6. Stock option plan (15 points) Sibling Inc. is a publicly traded company. The president, Bob Brothers, was given stock options to acquire 10,000 shares of Sibling’s $5 par value common stock for $20 each. The options were granted on December 31, 2008 when the stock was selling for $20 per share. Mr. Brothers cannot exercise his stock options until January 1, 2011. If not exercised, the options will expire on December 31, 2011. He cannot receive the cash value of difference between market price and exercise price. The relevant market prices and fair values are given in the table below. Assume that Bob Brothers exercised all the options on June 25, 2011 when the common stock was selling for $39 per share. If no entry is needed at the specified dates, the answer is “not applicable.”

Date Market Price

Fair Value

12/31/08 $20 $312/31/09 $25 $912/31/10 $19 $16/25/11 $39 $19

Prepare all necessary entries on Sibling Inc.’s books.

12/31/08

12/31/09

12/31/10

6/15/11


7. Long-term construction accounting (15 points) On July 14, 2008 Eastern Construction Co. entered into a contract with the Falls City to build a bridge for $10,000,000. Construction began immediately and was completed in November 2009. Data relating to the construction are:

2008 2009 Costs incurred $1,750,000 $7,250,000Estimated costs to complete 5,250,000 —Progress Billings 2,000,000 8,000,000

Instructionsa. How much revenue should be reported for 2008 under the percentage-of-completion

method? Show your computation.

b. Make the entry to record the revenue and gross profit for 2008 (percentage-of-completion method).

c. What is the amount that will appear on the balance sheet for the year ended 12/3108 assuming the completed contract method is used? (Give the title as well as the amount and the section where it will appear.)

d. Extra Credit (up to 5 points). Assume that Eastern follows IFRS and could not make sufficiently reliable estimates of

progress toward completion. Prepare any journal entry that would be recorded on the profit and loss statement for 2008.


8. EXTRA CREDIT: Permanent and temporary differences (10 points maximum)

Listed below are items that are treated differently for accounting purposes than they are for tax purposes. Indicate whether the items are permanent differences or temporary differences. For temporary differences, indicate whether they will create deferred tax assets or deferred tax liabilities.

A Temporary difference – deferred tax liabilityB Temporary difference – deferred tax assetC Permanent differenceD None of the above

______ 1. 80% of dividends received from another domestic corporation are excluded from taxable income under the tax code

______ 2. Amortization of goodwill on tax return.

______ 3. Estimated future warranty costs.

______ 4. Contingent liability for court costs related to customer injury case.

______ 5. First and last year’s rent received in advance on a 5 year lease.

______ 6. Depreciation of capitalized cost related to estimated liability for asset retirement obligation.

______ 7. Revenues from 3-year magazine subscriptions received in advance.

______ 8. Unrealized gain on marketable securities.

______ 9. Completed contract method for tax return and percentage of completion for income statement

______10. Proceeds from life insurance policy received by company on death of president.


For Problem 1 Name:


For Problem 3 Name:______________________________


SOLUTIONS

Problem 1

Pension Worksheet 1 2 4 5 6 7 8SFAS NO. 158 Accounts on Employer's Books Not on BooksPlymouth Rock Corporation Income Stmt BS AOCI BS Memorandum Amounts

2008 CashBALANCE FORWARD 25,000 -900,000 925,000

Service Cost 50,000 -50,0006% Interest Cost 54,000 -54,0009% Expected return on plan as -83,250 83,250

92,500 Corridor Amount128,000 AOCI Actuarial (BoY)35,500 Excess

AMORTIZATIONS:15 Unrecognized gain/loss -2,367 2,367

Prior Service Cost 15,000 -15,000Transition Amount 0

Contributions to Pension Plan -50,000 50,000Retirement Benefits Paid by Plan 40,000 -40,000Actual Return on Plan Assets -93,000 93,000Actuarial Adjustments to PBO 27,000 -27,000

Amounts for journal entry: 33,383 -50,000 19,617 -15,000 12,000AOCI balance forward -128,000 180,000BALANCES AT YEAR END -108,383 165,000 37,000 -991,000 1,028,000

Summary journal entry Debit CreditPension expense $ 33,383 C. Balance sheetCash $ 50,000 Noncurrent Assets

Funded status of pension plan 37,000AOCI - actuarial gain/loss $ 19,617 $ - debitAOCI - prior service cost $ - $ 15,000 Owners equity sectionNet pension obligation or asset $ 12,000 $ - Acc'd other comprehensive income 56,617

Pension Expense

Net actuarial (gain)/loss

Prior Service

CostFunded Status

Projected Benefit

ObligationPlan

Assets

Note that the amortization of unrecognized GAIN results in reduction of pension expense because you need a DEBIT in the AOCI column to reduce (amortize) the gain.

Problem 2a – earnings per shareTransactions in Common Shares Cumulative Adjustment Months WeightedJan 1 to May 1 500,000 3.00 4 6,000,000May 1, 2008, issued shares 30,000May 1, 2008 to August 31 530,000 3.00 4 6,360,000Aug 31, 2008, 3 for 1 split 1,060,000Sept 1 to Oct 31 1,590,000 1.00 2 3,180,000Nov 1, purchased treasury stock -80,000Nov. 1, 2008 - Dec 31 1,510,000 1.00 2 3,020,000

12 18,560,000Weighted average shares 1,546,667


For Problem 2b & 2cPotentially dilutive securitiesCumulative convertible preferred 180,000 shares Options

5% $ 100.00 par 150,000conversion ratio 9 Price $ 50.00

Dividend per share $ 5.00 Mkt $ 56.00 Dividend $ 900,000 = short-cut mtd:Shares converted into 1,620,000 $ 0.56 16,071

Proceeds 7,500,000Treasury stock method Buy back 133,929

Net new 16,071

Bonds 15,000,000 face8% interest rate

Face value of each bond 5,000 30% tax rateNumber of bonds 3,000 interest expenseConversion ratio 240 1,200,000

840,000 after taxAfter tax interest $ 840,000 =bonds convert to shares 720,000 $ 1.17

Numerator Denominator EPSNet income 2,300,000Preferred dividend -900,000

1,400,000 1,500,000 basic= $ 0.93 Options 16,071

1,400,000 1,516,071 $ 0.92 Cumulative convertible preferred 900,000 1,620,000

2,300,000 3,136,071 diluted= $ 0.73 Bonds 840,000 720,000

3,140,000 3,856,071 NO $ 0.81

Solution 3 – Deferred Tax ProblemDeferred Tax Problems - Worksheet 2007 2008Pre-tax accounting income 450,000 530,000 Permanent differences: Tax-exempt interest (15,000) (15,000)Life insurance premiums 4,000 4,000 Book TI 439,000 519,000 Temporary differences: Depreciation (20,000) (60,000)Warranties 14,000 7,000 Installment sales (80,000) (250,000) Taxable income (a) 353,000 216,000 Applicable tax rate 30% 32%Income taxes payable/(receivable) (a) 105,900 69,120 Inventory of temporary differences (b) Depreciation (20,000) (80,000)Warranties 14,000 21,000 Installment sales (80,000) (330,000)

0 - - Total net temp differences (86,000) (389,000)Applicable tax rate 32% 32%Deferred taxes (net) ending (27,520) (124,480)Deferred taxes (net) beginning - (27,520)Change in net deferred taxes (27,520) (96,960)Taxes (payable)/receivable from above (105,900) (69,120)Income tax expense 133,420 166,080


Problem 3, continued (c) Income Tax Expense.............................................................................. 133,420

Deferred Taxes (net) ................................................................ 27,520Income Tax Payable ................................................................. 105,900

(d) Take each temporary difference and multiply by the tax rate (32%). Combine current items and combine noncurrent items. If the net is a debit, classify as asset. If the net is a credit, classify as a liability. In this case, the 2008 balance sheet will show a current deferred tax liability of $28,480 and a noncurrent deferred tax liability of $96,000.

Balance sheet computations:Warranties 14,000 21,000 Installment sales (26,667) (110,000)

Net current items (12,667) (89,000)Tax rate (in future years) 32% 32%Net current (liability) asset (4,053) (28,480)Depreciation (20,000) (80,000)Installment sales (2/3) (53,333) (220,000)

Net noncurrent items (73,333) (300,000)Tax rate (in future years) 32% 32%Net noncurrent (liability) asset (23,467) (96,000)

4. Years of service methodNumber of expected

retirements Year of retirement (on Dec 31)Years of Work

Remaining TOTAL 100 2012 5 years 500 150 2017 10 years 1,500 50 2022 15 years 750 100 2027 20 years 2,000 400 4,750

a. Average remaining service life = 4,750/400 employees = 11.875 yearsb. For SL, divide total by average remaining service life: $5,750,000/11.875 years = $484,210c. For the first five years, there are 400 employees so 400/4,750 * $5,750,000 = $484,211 (same as straight-line method). However, for the next 5 years, there are only 300 employees left so 300/4,750 * $5,750,000 = $363,158 per year. For 2018, the fraction will be 150/4,750 * $5,750,000 = $181,579, and so on. The schedule below is not necessary!

Fractions for400/4750 2008 8/95 $484,211400/4750 2009 8/95 $484,211400/4750 2010 8/95 $484,211400/4750 2011 8/95 $484,211400/4750 2012 8/95 $484,211300/4750 2013 6/95 $363,158300/4750 2014 6/95 $363,158300/4750 2015 6/95 $363,158300/4750 2016 6/95 $363,158300/4750 2017 6/95 $363,158150/4750 2018 3/95 $181,579150/4750 2019 3/95 $181,579150/4750 2020 3/95 $181,579150/4750 2021 3/95 $181,579150/4750 2022 3/95 $181,579100/4750 2023 2/95 $121,053100/4750 2024 2/95 $121,053100/4750 2025 2/95 $121,053100/4750 2026 2/95 $121,053100/4750 2027 2/95 $121,053

100.00% 5,750,000


Problem 5 Prior service costCurrent salary 80,000 Step 1Annual raise 5% Years until retirement 22 PMT 0 Salary at retirement 234,021 Future salary $ 234,021 at retirement Step 2Benefit formula 2.0% per year of service Benefit per yr $ 4,680.42 Life expectancy 20 years after retirement worked one more yr 15 years credited for prior service Benefit for service cost

$ 70,206.26

Step 3

PMT = $

(70,206.26) benefit from 15 years of prior serviceN = 20 life expectancy after retirement

FV = $0.00 no final payment INT RATE = 6% discount rate

PV = $

805,260.24 Needed at retirement PMT = 0 (not an annuity) Step 4

N = 22 years until retirement INT RATE = 6% discount rate

FV = $

(805,260.24) Needed at retirement for 15 years prior service

PV = $

223,463.10 Prior service cost & increase to PBO

6. Employee stock options – this is an equity award so the fair value is measured at the grant date and is not changed thereafter.

12/31/08 – NO ENTRY on grant date because the options have not yet been earned

12/31/09 & 12/31/10Compensation expense (10,000 * $3 * 50% earned)........................15,000

APIC – stock options.........................................................................................15,000

Same entry would be made at 12/31/10 because the service period is two years and the compensation expense would be recognized equally in each of the 2 years.

6/25/11Cash (10,000 * $20 each)...............................................................200,000APIC – stock options (10,000 * $3 each)..........................................30,000

Common stock (10,000 * $5 par value).............................................................50,000APIC – common stock (what it takes to balance)............................................180,000


7. Construction accounting(a) $1,750

———---—— = Percent of completion = 25% × $10,000,000 = $2,500,000 construction revenue$1750+5250

(b) Construction Expenses.................................................................. 1,750,000Construction in Process ................................................................ 750,000

Revenue from Long-Term Contracts ................................ 2,500,000

(c) The following entry would be made to record progress billings – giving a balance of $2,000,000 credit

Accounts Receivable .................................................................... 2,000,000Billings on Construction in Process .................................. 2,000,000

Construction in progress under the completed contract method contains just the costs incurred or $1,750,000 debit.

The two accounts (construction in progress and partial billings) are combined and since the credits are bigger than the debits, it is reported under current liabilities on the balance sheet:

Current liabilities:Billings in excess of costs on uncompleted contracts . $250,000

(d) extra credit – Under IFRS, the zero profit method would be used and the following entry would be recorded (to offset the expenses incurred):

Construction Costs .....................................................$1,750,000Revenue on long-term construction projects.....................$1,750.000

8 Matching – extra credit1. C 2. A 3. B 4. B 5. B6. B 7. B 8. A 9. A 10. C

Acct 414, Exam 2, Fall 2007 - University of Idaho · Web viewStraight-line depreciation over a...

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