Intermediate Accounting
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Exercise 13-1Requirement 1Cash ............................................................... 16,000,000Notes payable .............................................. 16,000,000 Requirement 2Interest expense ($16,000,000 x 12% x 2/12) ...... 320,000Interest payable ........................................... 320,000 Requirement 3Interest expense ($16,000,000 x 12% x 7/12) ...... 1,120,000Interest payable (from adjusting entry) ............... 320,000Notes payable (face amount) ............................. 16,000,000Cash (total) ................................................... 17,440,000 Exercise 13-21. Interest rate Fiscal year-end12% December 31$400 million x 12% x 6/12 = $24 million2. Interest rate Fiscal year-end10% September 30$400 million x 10% x 3/12 = $10 million3. Interest rate Fiscal year-end9% October 31$400 million x 9% x 4/12 = $12 million4. Interest rate Fiscal year-end6% January 31$400 million x 6% x 7/12 = $14 millionExercise 13-32011Jan. 13No entry is made for a line of credit until a loan actually is made. It would be described in a disclosure note.Feb. 1Cash .......................................................................... 5,000,000Notes payable ........................................................ 5,000,000 May 1Interest expense ($5,000,000 x 10% x 3/12)................... 125,000Notes payable (face amount) ........................................ 5,000,000Cash ($5,000,000 + 125,000)...................................... 5,125,000 Dec. 1Cash (difference) .......................................................... 9,325,000Discount on notes payable ($10,000,000 x 9% x 9/12) ... 675,000Notes payable (face amount) .................................... 10,000,000 Dec. 31The effective interest rate is 9.6515% ($675,000 ÷ $9,325,000) x 12/9. So, properly, interest should be recorded at that rate times the outstanding balance timesone-twelfth of a year:Interest expense ($9,325,000 x 9.6515% x 1/12)............. 75,000Discount on notes payable ................................... 75,000 However the same results are achieved if interest is recorded at the discountrate times the maturity amount times one-twelfth of a year:Interest expense ($10,000,000 x 9% x 1/12)................... 75,000Discount on notes payable ................................... 75,000Exercise 13-3 (concluded)2012Sept. 1Interest expense ($10,000,000 x 9% x 8/12)* ................. 600,000Discount on notes payable ................................... 600,000 Notes payable (balance)............................................... 10,000,000Cash (maturity amount) ............................................. 10,000,000 * or, ($9,325,000 x 9.6515% x 8/12) = $600,000Exercise 13-4Wages expense (increases wages expense to $410,000) ........... 6,000Liability – compensated future absences.................... 6,000** ($404,000 - 4,000] = $400,000 non-vacation wagesx 1/40 = $10,000 vacation pay earned(4,000) vacation pay taken= $ 6,000 vacation pay carried overExercise 13-5Requirement 1Wages expense (700 x $900) .............................................. 630,000Liability – compensated future absences............ 630,000 Requirement 2Liability – compensated future absences................. 630,000Wages expense ($31 million + [5% x $630,000]) .............. 31,031,500Cash (or wages payable) (total) ............................ 31,661,500Exercise 13-6Requirement 1Cash ............................................................................. 5,200Liability – gift certificates...................................... 5,200Cash ($2,100 + 84 - 1,300) (884)Liability – gift certificates ......................................... 1,300Sales revenue ........................................................... 2,100Sales taxes payable (4% x $2,100) (84)Requirement 2Gift certificates sold$5,200Gift certificates redeemed(1,300)Liability to be reported at December 31 $3,900 Requirement 3The sales tax liability is a current liability because it is payable in January.The liability for gift certificates is part current and part noncurrent:Gift certificates sold$5,200x 80% Estimated current liability$4,160Gift certificates redeemed (1,300)Current liability at December 31 $2,860Noncurrent liability at December 31 ($5,200 x 20%) 1,040Total $3,900Exercise 13-7Requirement 1Deposits CollectedCash .................................................................. 850,000Liability – refundable deposits ................... 850,000Containers ReturnedLiability – refundable deposits ....................... 790,000Cash .............................................................. 790,000Deposits ForfeitedLiability – refundable deposits ....................... 35,000Revenue – sale of containers ....................... 35,000Cost of goods sold ........................................... 35,000Inventory of containers ............................... 35,000 Requirement 2Balance on January 1$530,000Deposits received850,000Deposits returned (790,000)Deposits forfeited (35,000)Balance on December 31 $555,000Exercise 13-8Requirement 1Cash ....................................................................... 7,500Liability – customer advance ........................... 7,500 Requirement 2Cash ....................................................................... 25,500Liability – refundable deposits......................... 25,500 Requirement 3Accounts receivable .............................................. 856,000Sales revenue.................................................... 800,000Sales taxes payable ([5% + 2%] x $800,000)......... 56,000Exercise 13-9Requirement 1The entire $10,000 sold in January will be recognized as revenue during2011. $6,000 because of gift card redemption; $4,000 because of gift cardbreakage.Requirement 2January Gift Card SalesCash .................................................................. 10,000Liability – unearned gift card revenue ......... 10,000 Redemption of January Gift CardsLiability – unearned gift card revenue............ 6,000Revenue – gift cards ..................................... 6,000 Expiration of January Gift CardsLiability – unearned gift card revenue............ 4,000Revenue – gift cards ..................................... 4,000 Requirement 3Of the $16,000 sold in March, $10,000 will be recognized as revenue:$4,000 because of gift card redemption; $6,000 of the remaining $12,000because of gift card expiration. To calculate the amount of gift cardbreakage, consider that, if March sales all occurred on the first day of themonth, all would have been outstanding for 10 months during 2011 andtherefore all $12,000 of non-redeemed gift cards would be viewed asexpired. On the other hand, if March sales all occurred on the last day ofthe month, none would have been outstanding for 10 months during 2011and therefore none of the $12,000 of non-redeemed gift cards would beviewed as expired. Assuming that sales of gift cards occur on average onMarch 15 gets us to the average of ($12,000 + $0) / 2 = $6,000 from giftcard expiration.Requirement 4The only liability at 12/31/2011 would be the $6,000 of unexpired March giftcards (see answer to requirement 3).Exercise 13-10Normally, short-term debt (payable within a year) is classified as current liabilities. However, when such debt is to be refinanced on a long-term basis, it may be included with long-term liabilities. The narrative indicates that Sprint has both (1) the intent and (2) the ability ("existing long-term credit facilities") to refinance on a long-term basis. Thus, Sprint reported the debt as long-term liabilities.Exercise 13-11Requirement 1Normally, IFRS requires that short-term debt (payable within a year) be classified as current liabilities. However, when such debt is to be refinanced on a long-term basis, it may be included with long-term liabilities. The narrative indicates that Sprint has both (1) the intent and (2) the ability ("existing long-term credit facilities") to refinance on a long-term basis. Thus, Sprint reported the debt as long-term liabilities. Requirement 2IFRS requires that the refinancing capability be in place as of the balance sheet date. Therefore, given that the refinancing was not arranged until after year end. IFRS would require that the debt be classified as a current liability.Exercise 13-121. Current liability: $10 millionThe requirement to classify currently maturing debt as a current liability includes debt that is callable by the creditor in the upcoming year – even if the debt is not expected to be called.2. Noncurrent liability: $14 millionThe current liability classification includes (a) situations in which the creditor has the right to demand payment because an existing violation of a provision of the debt agreement makes it callable and (b) situations in which debt is not yet callable, but will be callable within the year if an existing violation is not corrected within a specified grace period – unless it's probable the violation will be corrected within the grace period. In this case, the existing violation is expected to be corrected within 6 months.3. Current liability: $7 millionThe debt should be reported as a current liability because it is payable in the upcoming year, will not be refinanced with long-term obligations, and will not be paid with a bond sinking fund.Exercise 13-13Requirement 1This is a loss contingency. There may be a future sacrifice of economic benefits (cost of satisfying the warranty) due to an existing circumstance (the warranted awnings have been sold) that depends on an uncertain future event (customer claims).The liability is probable because product warranties inevitably entail costs. A reasonably accurate estimate of the total liability for a period is possible based on prior experience. So, the contingent liability for the warranty is accrued. The estimated warranty liability is credited and warranty expense is debited in 2011, the period in which the products under warranty are sold.Requirement 22011 SalesAccounts receivable ........................................... 5,000,000Sales ............................................................... 5,000,000Accrued liability and expenseWarranty expense (3% x $5,000,000) ........................ 150,000Estimated warranty liability........................... 150,000Actual expendituresEstimated warranty liability .............................. 37,500Cash, wages payable, parts and supplies, etc.37,500 Requirement 3Warranty Liability_________________________________________150,000Estimated liabilityActual expenditures37,500112,500 BalanceExercise 13-14Requirement 1This is not a loss contingency. An extended warranty is priced and sold separately from the warranted product and therefore essentially constitutes a separate sales transaction. Since the earning process for an extended warranty continues during the contract period, revenue should be recognized over the same period. Revenue from separately priced extended warranty contracts are deferred as a liability at the time of sale, and recognized over the contract period on a straight-line basis.Requirement 2During the yearAccounts receivable ............................................. 412,000Unearned revenue – extended warranties ....... 412,000 December 31 (adjusting entry)Unearned revenue – extended warranties ........... 51,500Revenue – extended warranties([$412,000 ÷ 2 years] x ½ x ½ year*).................... 51,500* Since sales of warranties were made evenly throughout the year, one-half of oneyear’s revenue is considered earned in the first 12 months. But, the contract periodbegins 90 days (3 months) after a sale so only half of that amount is earned in 2011.Exercise 13-15Requirement 1This is a loss contingency. A liability is accrued if it is both probable that the confirming event will occur and the amount can be at least reasonably estimated. If one or both of these criteria is not met, but there is at least a reasonable possibility that the loss will occur, a disclosure note should describe the contingency. In this case, a liability is accrued since both of these criteria are met.Requirement 2Loss:$2 millionRequirement 3Liability:$2 millionRequirement 4Loss – product recall ................................................................ 2,000,000Liability - product recall .......................................... 2,000,000A disclosure note also is appropriate.Exercise 13-16Requirement 1This is a loss contingency. Some loss contingencies don’t involve liabilities at all. Some contingencies when resolved cause a noncash asset to be impaired, so accruing it means reducing the related asset rather than recording a liability.The most common loss contingency of this type is an uncollectible receivable, as described in this situation.Requirement 2Bad debt expense: 3% x $2,400,000 = $72,000Requirement 3Bad debt expense (3% x $2,400,000) ................................. 72,000Allowance for uncollectible accounts.................. 72,000 Requirement 4Allowance for uncollectible accounts:Beginning of 2011 $75,000Write off of bad debts* 73,000Credit balance before accrual 2,000Year-end accrual (Req. 3) 72,000End of 2011 $74,000* Allowance for uncollectible accounts........................ 73,000Accounts receivable ......................................... 73,000 Net realizable value:Accounts receivable $490,000Less: Allowance for uncollectible accounts (74,000)Net realizable value $416,000Exercise 13-17Requirement 1Promotional expense:70% x $5 x 20,000 = $70,000Requirement 2Premium liability:$70,000 – 22,000 = $48,000Requirement 3Promotional expense ([70% x $5 x 20,000] – $22,000) ....... 48,000Estimated premium liability.................................... 48,000Exercise 13-18Scenario 1No disclosure is required because an EPA claim is as yet unasserted, and an assessment is not probable.Scenario 2No disclosure is required because an EPA claim is as yet unasserted, and an assessment is not probable. Even if an unfavorable outcome is thought to be probable in the event of an assessment and the amount is estimable, disclosure is not required unless an unasserted claim is probable.Scenario 3A disclosure note is required because an EPA claim is as yet unasserted, but anassessment is probable. Since an unfavorable outcome is not thought to be probable in the event of an assessment, no accrual is needed, but since an unfavorable outcome is thought to be reasonably possible in the event of an assessment, disclosure in a footnote is required. Keep in mind, though, that in practice, disclosure of an unasserted claim is rare. Such disclosure would alert the other party, the EPA in this case, of a potential point of contention that may otherwise not surface. The outcome of litigation and any resulting loss are highly uncertain, making difficult the determination of their possibility of occurrence. Scenario 4Accrual of the loss is required because an EPA claim is as yet unasserted, but an assessment is probable. Since an unfavorable outcome also is thought to be probable in the event of an assessment, accrual is needed. Keep in mind, though, that in practice, accrual of an unasserted claim is rare. Such disclosure would alert the other party, the EPA in this case, of a potential point of contention that may otherwise not surface. Accrual could be offered in court as an admission of responsibility. A loss usually is not recorded until after the ultimate settlement has been reached or negotiations for settlement are substantially completed.Exercise 13-19Requirement 1Warranty expense ([4% x $2,000,000] - $30,800) ............. 49,200Estimated warranty liability ................................. 49,200 Requirement 2Bad debt expense (2% x $2,000,000) ................................. 40,000Allowance for uncollectible accounts.................. 40,000 Requirement 3This is a loss contingency. Classical can use the information occurring after the end of the year and before the financial statements are issued to determine appropriate disclosure.Loss – litigation ......................................................... 1,500,000Liability - litigation ............................................... 1,500,000A disclosure note also is appropriate.Requirement 4This is a gain contingency. Gain contingencies are not accrued even if the gain is probable and reasonably estimable. The gain should be recognized only when realized. A disclosure note is appropriate.Requirement 5Loss – product recall .................................................... 500,000Liability - product recall .......................................... 500,000A disclosure note also is appropriate.Requirement 6Promotional expense ([60% x $25 x 10,000] – $105,000) ... 45,000Estimated premium liability.................................... 45,000Exercise 13-20Requirement 1Erismus would recognize a liability of $1,000,000, as IFRS defines ―probable‖ as ―more likely than not‖ (> 50%), and they are more likely than not to lose in court.Requirement 2Erismus would recognize a liability of $3,000,000, as they are more likely than not to lose in court, and IFRS requires that they take the midpoint of the range of equally likely outcomes.Requirement 3Erismus would recognize a liability of $3,500,000, as they are more likely than not to lose in court, and IFRS requires that they take the present value of future outcomes if time-value-of-money effects are material.Requirement 4This is a gain contingency. Gain contingencies are not accrued under IFRS even if the gain is probable and reasonably estimable. The gain should be recognized only when realized. A disclosure note is appropriate.Exercise 13-21Item Reporting Method__C_ 1. Commercial paper. N. Not reported__D_ 2. Noncommitted line of credit. C. Current liability__C_ 3. Customer advances. L. Long-term liability__C_ 4. Estimated warranty cost. D. Disclosure note only __C_ 5. Accounts payable. A. Asset__C_ 6. Long-term bonds that will be callable by the creditor in the upcoming year unless an existing violation is not corrected (there is a reasonablepossibility the violation will be corrected within the grace period).__C_ 7. Note due March 3, 2012.__C_ 8. Interest accrued on note, Dec. 31, 2011.__L_ 9. Short-term bank loan to be paid with proceeds of sale of common stock. __D_ 10. A determinable gain that is contingent on a future event that appears extremely likely to occur in three months.__C_ 11. Unasserted assessment of back taxes that probably will be asserted, in which case there would probably be a loss in six months.__N_ 12. Unasserted assessment of back taxes with a reasonable possibility of being asserted, in which case there would probably be a loss in 13 months.__C_ 13. A determinable loss from a past event that is contingent on a future event that appears extremely likely to occur in three months.__A_ 14. Bond sinking fund.__C_ 15. Long-term bonds callable by the creditor in the upcoming year that are not expected to be called.Exercise 13-22Requirement 1Accrued liability and expenseWarranty expense (3% x $3,600,000) ............................................... 108,000Estimated warranty liability .............................................. 108,000 Actual expenditures (summary entry)Estimated warranty liability .................................................. 88,000Cash, wages payable, parts and supplies, etc.................... 88,000 Requirement 2Actual expenditures (summary entry)Estimated warranty liability($50,000 – $23,000) ..................... 27,000Loss on product warranty (3% – 2%] x $2,500,000)................... 25,000Cash, wages payable, parts and supplies, etc.................... 52,000* *(3% x $2,500,000) – $23,000 = $52,000Exercise 13-231. This is a change in estimate.To revise the liability on the basis of the new estimate:Liability - litigation ($1,000,000 – 600,000)................... 400,000Gain – litigation ...................................................... 400,000 2. A disclosure note should describe the effect of a change in estimate on income beforeextraordinary items, net income, and related per-share amounts for the current period.Exercise 13-24The note describes a loss contingency. Dow anticipates a future sacrifice of economic benefits (cost of remediation and restoration) due to an existing circumstance (environmental violations) that depends on an uncertain future event (requirement to pay claim).Dow considers the liability probable and the amount is reasonably estimable. As a result, the company accrued the liability:($ in millions) Loss provision from environmental claims (312)Liability for settlement of environmental claims (312)In practice this liability would be accrued in multiple entries, increasing when Dow recognized additional liability and decreasing either when Dow paid off parts of the liability or revised downward their estimate of remediation and restoration costs. Exercise 13-25Salaries and wages expense (total amount earned) .....500,000Withholding taxes payable (federal income tax) ... 100,000Social security taxes payable ($500,000 x 6.2%).. 31,000Medicare taxes payable ($500,000 x 1.45%)......... 7,250Salaries and wages payable (net pay) ................. 361,750Payroll tax expense (total) ...................................... 69,250Social security payable(employer’s matching amount)31,000Medicare taxes payable(employer’s matching amount)7,250Federal unemployment tax payable ($500,000 x 0.8%)4,000State unemployment tax payable ($500,000 x 5.4%) 27,000Exercise 13-26Requirement 1The specific citation that specifies the guidelines for accruing loss contingencies is FASB ACS 450–20–25–2: ―Contingencies–Loss Contingencies–Recognition–General Rule.‖Requirement 2Specifically, the guidelines are that an estimated loss from a loss contingency be accrued by a charge to income if both of the following conditions are met:a. Information available prior to issuance of the financial statements indicates thatit is probable that an asset had been impaired or a liability had been incurred at the date of the financial statements.b. The amount of loss can be reasonably estimated.Exercise 13-27The FASB Accounting Standards Codification represents the single source of authoritative U.S. generally accepted accounting principles. The specific citation for each of the following items is:1. If it is only reasonably possible that a contingent loss will occur, thecontingent loss should be disclosed:FASB ACS 450–20–50–3: ―Contingencies–LossContingencies–Disclosure–Unrecognized Contingencies.”2. Criteria allowing short-term liabilities expected to be refinanced to beclassified as long-term liabilities:FASB ACS 470–10–45–14: ―Debt–Overall–Other Presentation Matters–Intent and Ability to Refinance on a Long-Term Basis.”3. Accounting for separately priced extended warranty contracts:FASB ACS 605–20–25–3: ―RevenueRecognition–Services–Recognition–Separately Priced Extended Warranty and Product Maintenance Contracts.”4. The criteria to determine if an employer must accrue a liability for vacationpay.FASB ASC 710-10-25-1: ―Compensation -- General – Overall—Recognition.‖CPA / CMA REVIEW QUESTIONS CPA Exam Questions1. d.2. a.3. a.4. a.CPA Exam Questions (concluded)5. a.6. d.CMA Exam Questions1. b.2. d.3. c.4. c.。
