Question & Answer

On January 3, 2013, 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: December 31, 2013, $560,000, and December 31, 2014, $515,000.

On January 2, 2015, Martin purchased an additional 30% of Renner’s stock for $1,545,000 cash when the book value of Renner’s net assets was $4,150,000. The excess was attributable to depreciable assets having a remaining life of 8 years. During 2013, 2014, and 2015, the following occurred.

Renner Dividends Paid by

Net Income Renner to Martin

2013 $350,000 $15,000

2014 450,000 20,000

2015 550,000 70,000

Instructions

On the books of Martin Company, prepare all journal entries in 2013, 2014, and 2015 that relate to its investment in Renner Corp., reflecting the data above and a change from the fair value method to the equity method.

On January 1, 2014, 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, 2014. Genso reported net income of $550,000 for the year ended December 31, 2014. On July 1, 2015, 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, 2015, and $2.50 per share on October 1, 2015. Genso reported net income of $650,000 for the year ended December 31, 2015, and $350,000 for the 6 months ended December 31, 2015.

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,

2014, that Millay should report from its investment in Genso in its income statement issued in

March 2015.

(b) During March 2016, Millay issues comparative financial statements for 2014 and 2015. Prepare schedules showing the income or loss before income taxes for the years ended December 31, 2014 and 2015, that Millay should report from its investment in Genso.

You have been asked by a client to review the records of Roberts Company, a small manufacturer 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, 2012, 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.

Year Ended Income

March 31 Before Taxes

2013 $ 71,600

2014 111,400

2015 103,580

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:

2013 $6,500

2014 none

2015 5,590

Sales price was determined by adding 25% to cost. Assume that the consigned machines are sold the following year.

3. On March 30, 2014, two machines were shipped to a customer on a C.O.D. basis. The sale was not entered until April 5, 2014, when cash was received for $6,100. The machines were not included in the inventory at March 31, 2014. (Title passed on March 30, 2014.)

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 1⁄2 of 1% of sales. The company has charged an expense account for warranty costs incurred.

Sales per books and warranty costs were as follows.

Warranty Expense

Year Ended for Sales Made in

March 31 Sales 2013 2014 2015 Total

2013 $ 940,000 $760 $ 760

2014 1,010,000 360 $1,310 1,670

2015 1,795,000 320 1,620 $1,910 3,850

5. Bad debts have been recorded on a direct write-off basis. Experience of similar enterprises indicates that losses will approximate 1⁄4 of 1% of sales. Bad debts written off were:

Bad Debts Incurred on Sales Made in

2013 2014 2015 Total

2013 $750 $ 750

2014 800 $ 520 1,320

2015 350 1,800 $1,700 3,850

6. The bank deducts 6% on all contracts financed. Of this amount, 1⁄2% 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.

2013 $ 3,000

2014 3,900

2015 5,100

$12,000

7. Commissions on sales have been entered when paid. Commissions payable on March 31 of each year were as follows.

2013 $1,400

2014 900

2015 1,120

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, 2013, 2014, and 2015. (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, 2015. Disregard correction of income taxes.

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 2013 and $37,000 net income for 2014. Further examination of the records reveals that the following items were handled improperly.

1. Rent was received from a tenant in December 2013. The amount, $1,000, was recorded as revenue at that time even though the rental pertained to 2014.

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, 2012 $1,100

December 31, 2013 1,200

December 31, 2014 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, 2012 $1,300

December 31, 2013 940

December 31, 2014 1,420

Instructions

Prepare a schedule that will show the corrected net income for the years 2013 and 2014. All items listed should be labeled clearly. (Ignore income tax considerations.)

On March 5, 2015, 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 2013 and 2014, you discover that no adjustments have yet been made for the items listed on the next page.

Items

1. Interest income of $14,100 was not accrued at the end of 2013. It was recorded when received in

February 2014.

2. A computer costing $4,000 was expensed when purchased on July 1, 2013. It is expected to have a 4-year life with no salvage value. The company typically uses straight-line depreciation for all fixed assets.

3. Research and development costs of $33,000 were incurred early in 2013. They were capitalized and were to be amortized over a 3-year period. Amortization of $11,000 was recorded for 2013 and $11,000 for 2014.

4. On January 2, 2013, Hemingway leased a building for 5 years at a monthly rental of $8,000. On that date, the company paid the following amounts, which were expensed when paid.

Security deposit $20,000

First month’s rent 8,000

Last month’s rent 8,000

$36,000

5. The company received $36,000 from a customer at the beginning of 2013 for services that it is to perform evenly over a 3-year period beginning in 2013. None of the amount received was reported as unearned revenue at the end of 2013.

6. Merchandise inventory costing $18,200 was in the warehouse at December 31, 2013, but was incorrectly omitted from the physical count at that date. The company uses the periodic inventory method.

Instructions

Indicate the effect of any errors on the net income figure reported on the income statement for the year ending December 31, 2013, and the retained earnings figure reported on the balance sheet at December 31, 2014. 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.

You have been assigned to examine the financial statements of Zarle Company for the year ended December 31, 2014. You discover the following situations.

1. Depreciation of $3,200 for 2014 on delivery vehicles was not recorded.

2. The physical inventory count on December 31, 2013, 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, 2014, was not recorded until January 2, 2015.

4. In 2014, 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 2014, 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 securities. No entry has been made to adjust to market. Information on cost and fair value is as follows.

Cost Fair Value

December 31, 2013 $95,000 $95,000

December 31, 2014 $84,000 $82,000

7. At December 31, 2014, 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, 2014, which was unchanged from its balance at December 31, 2013.

8. A large piece of equipment was purchased on January 3, 2014, 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, 2013, for a policy that expires on June 30, 2016, was charged to insurance expense. 10. A trademark was acquired at the beginning of 2013 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 2014. Assuming all amounts are material, prepare journal entries showing the adjustments that are required. (Ignore income tax considerations.)

On December 31, 2014, 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, 2011. 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 2014, 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, 2010. 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  and have a zero residual value. In 2014, 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, 2010. The asset’s original cost was $160,000, and this amount was entirely expensed in 2010. 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 2014 before depreciation expense amounted to $400,000.

2. Depreciation expense on assets other than A, B, and C totaled $55,000 in 2014.

3. Income in 2013 was reported at $370,000.

4. Ignore all income tax effects.

5. 100,000 shares of common stock were outstanding in 2013 and 2014.

Instructions

(a) Prepare all necessary entries in 2014 to record these determinations.

(b) Prepare comparative retained earnings statements for Madrasa Inc. for 2013 and 2014. The company had retained earnings of $200,000 at December 31, 2012.

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 averagecost in 2014. 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.

UTRILLO INSTRUMENT COMPANY

STATEMENT OF INCOME AND RETAINED EARNINGS

FOR THE YEARS ENDED MAY 31

2010 2011 2012 2013 2014

Sales—net $13,964 $15,506 $16,673 $18,221 $18,898

Cost of goods sold

Beginning inventory 1,000 1,100 1,000 1,115 1,237

Purchases 13,000 13,900 15,000 15,900 17,100

Ending inventory (1,100) (1,000) (1,115) (1,237) (1,369)

Total 12,900 14,000 14,885 15,778 16,968

Gross profi t 1,064 1,506 1,788 2,443 1,930

Administrative expenses 700 763 832 907 989

Income before taxes 364 743 956 1,536 941

Income taxes (50%) 182 372 478 768 471

Net income 182 371 478 768 470

Retained earnings—beginning 1,206 1,388 1,759 2,237 3,005

Retained earnings—ending $ 1,388 $ 1,759 $ 2,237 $ 3,005 $ 3,475

Earnings per share $1.82 $3.71 $4.78 $7.68 $4.70

SCHEDULE OF INVENTORY BALANCES USING AVERAGE-COST METHOD

FOR THE YEARS ENDED MAY 31

2009 2010 2011 2012 2013 2014 $1,010 $1,124 $1,101 $1,270 $1,500 $1,720

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 2009. (All amounts except EPS are rounded up to the nearest dollar.)

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.

Pretax Income

Percentage-of-Completion Completed-Contract

Prior to 2014 $150,000 $105,000

2014 60,000 20,000

ASTON CORPORATION

PROJECTED INCOME STATEMENT

FOR THE YEAR ENDED DECEMBER 31, 2014

Sales $29,000,000

Cost of goods sold $14,000,000

Depreciation 2,600,000

Operating expenses 6,400,000 23,000,000

Income before income tax 6,000,000

Income tax 3,000,000

Net income $ 3,000,000

ASTON CORPORATION

SELECTED BALANCE SHEET INFORMATION

AT DECEMBER 31, 2014

Estimated cash balance $ 5,000,000

Available-for-sale securities (at cost) 10,000,000

Fair value adjustment (1/1/14) —0—

Estimated fair value at December 31, 2014:

Security Cost Estimated Fair Value

A $ 2,000,000 $ 2,200,000

B 4,000,000 3,900,000

C 3,000,000 3,100,000

D 1,000,000 1,800,000

Total $10,000,000 $11,000,000

Other information at December 31, 2014:

Equipment $3,000,000

Accumulated depreciation (5-year SL) 1,200,000

New robotic equipment (purchased 1/1/14) 5,000,000

Accumulated depreciation (5-year DDB) 2,000,000

The corporation has never used robotic equipment before, and Warren assumed an accelerated method because of the rapidly changing technology in robotic equipment. The company normally uses straightline depreciation for production equipment. Aston explains to Warren that it is important for the corporation to show a $7,000,000 income before taxes because Aston receives a $1,000,000 bonus if the income before taxes and bonus reaches $7,000,000.

Aston also does not want the company to pay more than $3,000,000 in income taxes to the government.

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?

Penn Company is in the process of adjusting and correcting its books at the end of 2014. 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, 2013 $3,500

December 31, 2014 $2,500

2. In reviewing the December 31, 2014, 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, 2012 Understated $16,000

December 31, 2013 Understated $19,000

December 31, 2014 Overstated $ 6,700

Penn has already made an entry that established the incorrect December 31, 2014, inventory amount.

3. At December 31, 2014, Penn decided to change the depreciation method on its office equipment from double-declining-balance to straight-line. The equipment had an original cost of $100,000 when purchased on January 1, 2012. It has a 10-year useful life and no salvage value. Depreciation expense recorded prior to 2014 under the double-declining-balance method was $36,000. Penn has already recorded 2014 depreciation expense of $12,800 using the double-declining-balance method.

4. Before 2014, Penn accounted for its income from long-term construction contracts on the completedcontract basis. Early in 2014, Penn changed to the percentage-of-completion basis for accounting purposes. It continues to use the completed-contract method for tax purposes. Income for 2014 has been recorded using the percentage-of-completion method. The following information is available.

Pretax Income

Percentage-of-Completion Completed-Contract

Prior to 2014 $150,000 $105,000

2014 60,000 20,000

Instructions

Prepare the journal entries necessary at December 31, 2014, to record the above corrections and changes.

The books are still open for 2014. The income tax rate is 40%. Penn has not yet recorded its 2014 income tax expense and payable amounts so current-year tax effects may be ignored. Prior-year tax effects must be considered in item 4.

Botticelli Inc. was organized in late 2012 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.

2012 $140,000a 2014 $205,000

2013 160,000b 2015 276,000

aIncludes a $10,000 increase because of change in bad debt experience rate.

bIncludes extraordinary gain of $30,000.

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 2013, 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 2012, if a 1% rate had been used, would have been $10,000. The company therefore restated its net income for 2012.

2. In 2015, 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. 2012 2013 2014 2015

Net income unadjusted—LIFO basis $140,000 $160,000 $205,000 $276,000

Net income unadjusted—FIFO basis 155,000 165,000 215,000 260,000

$ 15,000 $ 5,000 $ 10,000 $ (16,000)

3. In 2015, the auditor discovered that:

(a) The company incorrectly overstated the ending inventory (under both LIFO and FIFO) by $14,000 in 2014.

(b) A dispute developed in 2013 with the Internal Revenue Service over the deductibility of entertainment expenses. In 2012, the company was not permitted these deductions, but a tax settlement was reached in 2015 that allowed these expenses. As a result of the court’s finding, tax expenses in 2015 were reduced by $60,000.

Instructions

(a) Indicate how each of these changes or corrections should be handled in the accounting records.

(Ignore income tax considerations.)

(b) Present comparative income statements for the years 2012 to 2015, starting with income before extraordinary items. (Ignore income tax considerations.)

Holtzman Company is in the process of preparing its financial statements for 2014. Assume that no entries for depreciation have been recorded in 2014. The following information related to depreciation of fixed assets is provided to you.

1. Holtzman purchased equipment on January 2, 2011, 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, 2014, 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 2014, 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 2012 and 2013. 2013 2012

Straight-line $27,000 $27,000

Declining-balance 48,000 60,000

2012 2013 2014 2015

Net income unadjusted—LIFO basis $140,000 $160,000 $205,000 $276,000

Net income unadjusted—FIFO basis 155,000 165,000 215,000 260,000

$ 15,000 $ 5,000 $ 10,000 $ (16,000)

3. In 2015, the auditor discovered that:

(a) The company incorrectly overstated the ending inventory (under both LIFO and FIFO) by $14,000 in 2014.

(b) A dispute developed in 2013 with the Internal Revenue Service over the deductibility of entertainment expenses. In 2012, the company was not permitted these deductions, but a tax settlement was reached in 2015 that allowed these expenses. As a result of the court’s finding, tax expenses in 2015 were reduced by $60,000.

Instructions

(a) Indicate how each of these changes or corrections should be handled in the accounting records.

(Ignore income tax considerations.)

(b) Present comparative income statements for the years 2012 to 2015, starting with income before extraordinary items. (Ignore income tax considerations.)

Dan Aykroyd Corp. was a 30% owner of Steve Martin Company, holding 210,000 shares of Martin’s common stock on December 31, 2013. The investment account had the following entries.

Investment in Martin

1/1/12 Cost $3,180,000 12/6/12 Dividend received $150,000

12/31/12 Share of income 390,000 12/5/13 Dividend received 240,000

12/31/13 Share of income 510,000

On January 2, 2014, Aykroyd sold 126,000 shares of Martin for $3,440,000, thereby losing its significant influence. During the year 2014, Martin experienced the following results of operations and paid the following dividends to Aykroyd.

Martin Dividends Paid

Income (Loss) to Aykroyd

2014 $300,000 $50,400

At December 31, 2014, the fair value of Martin shares held by Aykroyd is $1,570,000. This is the first reporting date since the January 2 sale.

Instructions

(a) What effect does the January 2, 2014, transaction have upon Aykroyd’s accounting treatment for its investment in Martin?

(b) Compute the carrying amount of the investment in Martin as of December 31, 2014 (prior to any fair value adjustment).

(c) Prepare the adjusting entry on December 31, 2014, applying the fair value method to Aykroyd’s long-term investment in Martin Company securities.

On January 1, 2014, Beyonce Co. purchased 25,000 shares (a 10% interest) in Elton John Corp. for $1,400,000. At the time, the book value and the fair value of John’s net assets were $13,000,000.

On July 1, 2015, Beyonce paid $3,040,000 for 50,000 additional shares of John common stock, which represented a 20% investment in John. The fair value of John’s identifiable assets net of liabilities was equal to their carrying amount of $14,200,000. As a result of this transaction, Beyonce owns 30% of John and can exercise significant influence over John’s operating and financial policies.

John reported the following net income and declared and paid the following dividends.

Net Income Dividend per Share

Year ended 12/31/14 $700,000 None

Six months ended 6/30/15 500,000 None

Six months ended 12/31/15 815,000 $1.55

Instructions

(Any excess fair value is attributed to goodwill.)

Determine the ending balance that Beyonce Co. should report as its investment in John Corp. at the end of

2015.

When the records of Debra Hanson Corporation were reviewed at the close of 2015, the errors listed below were discovered. For each item, indicate by a check mark in the appropriate column whether the error resulted in an overstatement, an understatement, or had no effect on net income for the years 2014 and 2015.

2014 2015

Over- Under- No Over- Under- No

Item statement statement Effect statement statement Effect

1. Failure to record amortization of patent in 2015.

2. Failure to record the correct amount of ending 2014 inventory. The amount was understated because of an error in calculation.

3. Failure to record merchandise purchased in 2014. Merchandise was also omitted from ending inventory in 2014 but was not yet sold.

4. Failure to record accrued interest on notes payable in 2014; that amount was recorded when paid in 2015.

5. Failure to refl ect supplies on hand on balance sheet at end of 2014.

The before-tax income for Lonnie Holdiman Co. for 2014 was $101,000 and $77,400 for 2015. However, the accountant noted that the following errors had been made:

1. Sales for 2014 included amounts of $38,200 which had been received in cash during 2014, but for which the related products were delivered in 2015. Title did not pass to the purchaser until 2015.

2. The inventory on December 31, 2014, was understated by $8,640.

3. The bookkeeper in recording interest expense for both 2014 and 2015 on bonds payable made the following entry on an annual basis.

Interest Expense 15,000

Cash 15,000 The bonds have a face value of $250,000 and pay a stated interest rate of 6%. They were issued at a discount of $15,000 on January 1, 2014, to yield an effective-interest rate of 7%. (Assume that the effective-yield method should be used.)

4. Ordinary repairs to equipment had been erroneously charged to the Equipment account during 2014 and 2015. Repairs in the amount of $8,500 in 2014 and $9,400 in 2015 were so charged. The company applies a rate of 10% to the balance in the Equipment account at the end of the year in its determination of depreciation charges.

Instructions

Prepare a schedule showing the determination of corrected income before taxes for 2014 and 2015.

A partial trial balance of Julie Hartsack Corporation is as follows on December 31, 2015.

Dr. Cr.

Supplies $ 2,700

Salaries and wages payable $ 1,500

Interest receivable 5,100

Prepaid insurance 90,000

Unearned rent –0–

Interest payable 15,000

Additional adjusting data:

1. A physical count of supplies on hand on December 31, 2015, totaled $1,100.

2. Through oversight, the Salaries and Wages Payable account was not changed during 2015. Accrued salaries and wages on December 31, 2015, amounted to $4,400.

3. The Interest Receivable account was also left unchanged during 2015. Accrued interest on investments amounts to $4,350 on December 31, 2015.

4. The unexpired portions of the insurance policies totaled $65,000 as of December 31, 2015.

5. $28,000 was received on January 1, 2015, for the rent of a building for both 2015 and 2016. The entire amount was credited to rent revenue.

6. Depreciation on equipment for the year was erroneously recorded as $5,000 rather than the correct figure of $50,000.

7. A further review of depreciation calculations of prior years revealed that equipment depreciation of

$7,200 was not recorded. It was decided that this oversight should be corrected by a prior period adjustment.

Instructions

(a) Assuming that the books have not been closed, what are the adjusting entries necessary at December 31, 2015? (Ignore income tax considerations.)

(b) Assuming that the books have been closed, what are the adjusting entries necessary at December 31,

2015? (Ignore income tax considerations.)

(c) Repeat the requirements for items 6 and 7, taking into account income tax effects (40% tax rate) and assuming that the books have been closed.

Peter Henning Tool Company’s December 31 year-end financial statements contained the following errors.

December 31, 2014 December 31, 2015

Ending inventory $9,600 understated $8,100 overstated

Depreciation expense $2,300 understated —

An insurance premium of $66,000 was prepaid in 2014 covering the years 2014, 2015, and 2016. The entire amount was charged to expense in 2014. In addition, on December 31, 2015, fully depreciated machinery was sold for $15,000 cash, but the entry was not recorded until 2016. There were no other errors during 2014 or 2015, and no corrections have been made for any of the errors. (Ignore income tax considerations.)

Instructions

(a) Compute the total effect of the errors on 2015 net income.

(b) Compute the total effect of the errors on the amount of Henning’s working capital at December 31,

2015.

(c) Compute the total effect of the errors on the balance of Henning’s retained earnings at December 31,

2015.

The reported net incomes for the first 2 years of Sandra Gustafson Products, Inc., were as follows: 2014, $147,000; 2015, $185,000. Early in 2016, the following errors were discovered.

1. Depreciation of equipment for 2014 was overstated $17,000.

2. Depreciation of equipment for 2015 was understated $38,500.

3. December 31, 2014, inventory was understated $50,000.

4. December 31, 2015, inventory was overstated $16,200.

Instructions

Prepare the correcting entry necessary when these errors are discovered. Assume that the books are closed. (Ignore income tax considerations.)

You have been engaged to review the financial statements of Gottschalk Corporation. In the course of your examination, you conclude that the bookkeeper hired during the current year is not doing a good job. You notice a number of irregularities as follows.

1. Year-end wages payable of $3,400 were not recorded because the bookkeeper thought that “they were immaterial.”

2. Accrued vacation pay for the year of $31,100 was not recorded because the bookkeeper “never heard that you had to do it.”

3. Insurance for a 12-month period purchased on November 1 of this year was charged to insurance expense in the amount of $2,640 because “the amount of the check is about the same every year.”

4. Reported sales revenue for the year is $2,120,000. This includes all sales taxes collected for the year.

The sales tax rate is 6%. Because the sales tax is forwarded to the state’s Department of Revenue, the

Sales Tax Expense account is debited. The bookkeeper thought that “the sales tax is a selling expense.” At the end of the current year, the balance in the Sales Tax Expense account is $103,400.

Instructions

Prepare the necessary correcting entries, assuming that Gottschalk uses a calendar-year basis.

The first audit of the books of Bruce Gingrich Company was made for the year ended December 31, 2015. In examining the books, the auditor found that certain items had been overlooked or incorrectly handled in the last 3 years. These items are:

1. At the beginning of 2013, the company purchased a machine for $510,000 (salvage value of $51,000) that had a useful life of 6 years. The bookkeeper used straight-line depreciation, but failed to deduct the salvage value in computing the depreciation base for the 3 years.

2. At the end of 2014, the company failed to accrue sales salaries of $45,000.

3. A tax lawsuit that involved the year 2013 was settled late in 2015. It was determined that the company owed an additional $85,000 in taxes related to 2013. The company did not record a liability in 2013 or 2014 because the possibility of loss was considered remote, and charged the $85,000 to a loss account in 2015.

4. Gingrich Company purchased a copyright from another company early in 2013 for $45,000. Gingrich had not amortized the copyright because its value had not diminished. The copyright has a useful life at purchase of 20 years.

5. In 2015, the company wrote off $87,000 of inventory considered to be obsolete; this loss was charged directly to Retained Earnings.

Instructions

Prepare the journal entries necessary in 2015 to correct the books, assuming that the books have not been closed. Disregard effects of corrections on income tax.

Below is the net income of Anita Ferreri Instrument Co., a private corporation, computed under the three inventory methods using a periodisystem.

FIFO Average-Cost LIFO

2012 $26,000 $24,000 $20,000

2013 30,000 25,000 21,000

2014 28,000 27,000 24,000

2015 34,000 30,000 26,000

Instructions

(Ignore tax considerations.)

(a) Assume that in 2015 Ferreri decided to change from the FIFO method to the average-cost method of pricing inventories. Prepare the journal entry necessary for the change that took place during 2015, and show net income reported for 2012, 2013, 2014, and 2015.

(b) Assume that in 2015 Ferreri, which had been using the LIFO method since incorporation in 2012, changed to the FIFO method of pricing inventories. Prepare the journal entry necessary to record the change in 2015 and show net income reported for 2012, 2013, 2014, and 2015.

Cullen Construction Company, which began operations in 2014, changed from the completed-contract to the percentage-of-completion method of accounting for long-term construction contracts during 2015. For tax purposes, the company employs the completedcontract method and will continue this approach in the future. The appropriate information related to this change is as follows.

Pretax Income

Percentage-of-Completion Completed-Contract Difference

2014 $880,000 $590,000 $290,000

2015 900,000 480,000 420,000

Instructions

(a) Assuming that the tax rate is 40%, what is the amount of net income that would be reported in 2015?

(b) What entry(ies) are necessary to adjust the accounting records for the change in accounting principle?

Gerald Englehart Industries changed from the doubledeclining- balance to the straight-line method in 2015 on all its plant assets. There was no change in the assets’ salvage values or useful lives. Plant assets, acquired on January 2, 2012, had an original cost of $1,600,000, with a $100,000 salvage value and an 8-year estimated useful life. Income before depreciation expense was $270,000 in 2014 and $300,000 in 2015.

Instructions

(a) Prepare the journal entry(ies) to record depreciation expense in 2015.

(b) Starting with income before depreciation expense, prepare the remaining portion of the income nstatement for 2014 and 2015.

Peter M. Dell Co. purchased equipment for $510,000 which was estimated to have a useful life of 10 years with a salvage value of $10,000 at the end of that time. Depreciation has been entered for 7 years on a straight-line basis. In 2015, it is determined that the total estimated life should be 15 years with a salvage value of $5,000 at the end of that time.

Instructions

(a) Prepare the entry (if any) to correct the prior years’ depreciation.

(b) Prepare the entry to record depreciation for 2015.