Question & Answer

Explain the distinction between a direct-financing lease and a sales-type lease for a lessor.

Distinguish between minimum rental payments and minimum lease payments, and indicate what is included in minimum lease payments.

Ballard Company rents a warehouse on a month-to-month basis for the storage of its excess inventory. The company periodically must rent space whenever its production greatly exceeds actual sales. For several years, the company officials have discussed building their own storage facility, but this enthusiasm wavers when sales increase sufficiently to absorb the excess inventory. What is the nature of this type of lease arrangement, and what accounting treatment should be accorded it?

Identify the two recognized lease accounting methods for lessees and distinguish between them.

Bradley Co. is expanding its operations and is in the process of selecting the method of financing this program. After some investigation, the company determines that it may (1) issue bonds and with the proceeds purchase the needed assets or (2) lease the assets on a long-term basis.

Without knowing the comparative costs involved, answer these questions:

(a) What might be the advantages of leasing the assets instead of owning them?

(b) What might be the disadvantages of leasing the assets instead of owning them?

(c) In what way will the balance sheet be differently affected by leasing the assets as opposed to issuing bonds and purchasing the assets?

What are the major lessor groups in the United States? What advantage does a captive have in a leasing arrangement?

A Wall Street Journal article discussed a $1.8 billion charge to income made by General Electric for postretirement benefit costs. It was attributed to previously unrecognized healthcare and life insurance cost. As financial vice president and controller for Peake, Inc., you found this article interesting because the president recently expressed interest in adopting a postemployment benefit program for Peake’s employees, to complement the company’s existing defined benefit plan. The president, Martha Beyerlein, wants to know  the expense on the new plan will be determined and what impact the accounting for the plan will have on Peake’s financial statements.

Instructions

(a) As financial vice president and controller of Peake, Inc., explain the calculation of postemployment benefit expense under GAAP, and indicate how the accounting for the plan will affect Peake’s financial statements.

(b) Discuss the similarities and differences in the accounting for the other postemployment benefit plan relative to the accounting for the defined benefit plan.

Instructions

Go to the book’s companion website and use information found there to answer the following questions related to The Coca-Cola Company and PepsiCo, Inc.

(a) What kind of pension plans do Coca-Cola and PepsiCo provide their employees?

(b) What net periodic pension expense (cost) did Coca-Cola and PepsiCo report in 2011?

(c) What is the year-end 2011 funded status of Coca-Cola’s and PepsiCo’s U.S. plans?

(d) What relevant rates were used by Coca-Cola and PepsiCo in computing their pension amounts?

(e) Compare the expected benefit payments and contributions for Coca-Cola and PepsiCo.

Jack Kelly Company has grown rapidly since its founding in 2004. To instill loyalty in its employees,

Kelly is contemplating establishment of a defined benefit plan. Kelly knows that lenders and potential investors will pay close attention to the impact of the pension plan on the company’s financial statements, particularly any gains or losses that develop in the plan. Kelly has asked you to conduct some research on the accounting for gains and losses in a defined benefit plan.

Instructions

Access the IFRS authoritative literature at the IASB website (http://eifrs.iasb.org/). (Click on the IFRS tab and then register for free eIFRS access if necessary.) When you have accessed the documents, you can use the search tool in your Internet browser to respond to the following questions. (Provide paragraph citations.)

(a) Briefly describe how pension gains and losses are accounted for.

(b) Explain the rationale behind the accounting method described in part (a).

(c) What is the related pension asset or liability that may show up on the statement of financial position?

When will each of these situations occur?

Linda Berstler Company sponsors a defined benefit pension plan. The corporation’s actuary provides the following information about the plan.

January 1, December 31,

2014 2014

Defi ned benefi t obligation $2,500 $3,300

Plan assets (fair value) 1,700 2,620

Discount rate 10%

Pension asset/liability 800 ?

Service cost for the year 2014 400

Contributions (funding in 2014) 700

Benefi ts paid in 2014 200

Instructions

(a) Compute the actual return on the plan assets in 2014.

(b) Compute the amount of other comprehensive income (G/L) as of December 31, 2014. (Assume the

January 1, 2014, balance was zero.)

Buhl Corp. sponsors a defined benefit pension plan for its employees. On January 1, 2014, the following balances relate to this plan.

Plan assets $480,000

Defi ned benefi t obligation 600,000

Pension asset/liability 120,000

As a result of the operation of the plan during 2014, the following additional data are provided by the actuary.

Service cost for 2014 $90,000

Discount rate, 6%

Actual return on plan assets in 2014 55,000

Unexpected loss from change in defi ned benefi t obligation, due to change in actuarial predictions 76,000

Contributions in 2014 99,000

Benefi ts paid retirees in 2014 85,000

Instructions

(a) Using the data above, compute pension expense for Buhl Corp. for the year 2014 by preparing a pension worksheet.

(b) Prepare the journal entry for pension expense for 2014.

The following defined pension data of Doreen Corp. apply to the year 2014. Defi ned benefi t obligation, 1/1/14 (before amendment) $560,000 Plan assets, 1/1/14 546,200 Pension asset/liability 13,800 Cr.

On January 1, 2014, Doreen Corp., through plan amendment, grants past service benefi ts having a present value of 120,000

Discount rate 9%

Service cost 58,000

Contributions (funding) 65,000

Actual return on plan assets 49,158

Benefi ts paid to retirees 40,000

Instructions

For 2014, prepare a pension worksheet for Doreen Corp. that shows the journal entry for pension expense and the year-end balances in the related pension accounts.

Tevez Company experienced an actuarial loss of $750 in its defined benefit plan in 2014. For 2014, Tevez’s revenues are $125,000, and expenses (excluding pension expense of $14,000, which does not include the actuarial loss) are $85,000. Prepare Tevez’s statement of comprehensive income for 2014.

Villa Company has experienced tough competition, leading it to seek concessions from its employees in the company’s pension plan. In exchange for promises to avoid layoffs and wage cuts, the employees agreed to receive lower pension benefits in the future. As a result, Villa amended its pension plan on January 1, 2014, and recorded negative past service cost of $125,000. Current service cost for 2014 is $26,000. Interest expense is $9,000, and interest revenue is $2,500. Actual return on assets in 2012 is $1,500. Compute Villa’s pension expense in 2014.

At the end of the current year, Joshua Co. has a defined benefit obligation of $335,000 and pension plan assets with a fair value of $345,000. The amount of the vested benefits for the plan is $225,000. Joshua has a liability gain of $8,300 (beginning accumulated OCI is zero). What amount and account(s) related to its pension plan will be reported on the company’s statement of financial position?

Bill Haley is learning about pension accounting. He is convinced that in years when companies record liability gains and losses, total comprehensive income will not be affected. Is Bill correct? Explain.

What is meant by “past service cost”? When is past service cost recognized as pension expense?

What is service cost, and what is the basis of its measurement?

What is net interest? Identify the elements of net interest and explain how they are computed.

Monat Company has grown rapidly since its founding in 2004. To instill loyalty in its employees, Monat is contemplating establishment of a defined benefit plan. Monat knows that lenders and potential investors will pay close attention to the impact of the pension plan on the company’s financial statements, particularly any gains or losses that develop in the plan. Monat has asked you to conduct some research on the accounting for gains and losses in a defined benefit plan.

Instructions

If your school has a subscription to the FASB Codification, go to http://aaahq.org/ascLogin.cfm to log in and prepare responses to the following. Provide Codification references for your responses.

(a) Briefly describe how pension gains and losses are accounted for.

(b) Explain the rationale behind the accounting method described in part (a).

(c) What is the related pension asset or liability that will show up on the balance sheet? When will each of these situations occur?

The financial statements of P&G are presented in Appendix 5B. The company’s complete annual report, including the notes to the financial statements, can be accessed at the book’s companion website, www.

wiley.com/college/kieso.

Instructions

Refer to P&G’s financial statements and the accompanying notes to answer the following questions.

(a) What kind of pension plan does P&G provide its employees in the United States?

(b) What was P&G’s pension expense for 2011, 2010, and 2009 for the United States?

(c) What is the impact of P&G’s pension plans for 2011 on its financial statements?

(d) What information does P&G provide on the target allocation of its pension assets? (Compare the asset allocation for “Pensions and Other Retiree Benefits.”) How do the allocations relate to the expected returns on these assets?

Thinken Technology recently merged with College Electronix (CE), a computer graphics manufacturing firm. In performing a comprehensive audit of CE’s accounting system, Gerald Ott, internal audit manager for Thinken Technology, discovered that the new subsidiary did not record pension assets and liabilities, subject to GAAP. The net present value of CE’s pension assets was $15.5 million, the vested benefit obligation was $12.9 million, and the projected benefit obligation was $17.4 million. Ott reported this audit finding to Julie Habbe, the newly appointed controller of CE. A few days later, Habbe called Ott for his advice on what to do. Habbe started her conversation by asking, “Can’t we eliminate the negative income effect of our pension dilemma simply by terminating the employment of nonvested employees before the end of our fiscal year?”

Instructions

How should Ott respond to Habbe’s remark about firing nonvested employees?

Vickie Plato, accounting clerk in the personnel office of Streisand Corp., has begun to compute pension expense for 2016 but is not sure whether or not she should include the amortization of unrecognized gains/losses. She is currently working with the following beginning-of-the-year present values for the projected benefit obligation and market-related values for the pension plan:

Projected Plan

Benefit Assets

Obligation Value

2013 $2,200,000 $1,900,000

2014 2,400,000 2,500,000

2015 2,900,000 2,600,000

2016 3,900,000 3,000,000

The average remaining service life per employee in 2013 and 2014 is 10 years and in 2015 and 2016 is

12 years. The net gain or loss that occurred during each year is as follows.

2013 $280,000 loss

2014 85,000 loss

2015 12,000 loss

2016 25,000 gain

(In working the solution, you must aggregate the unrecognized gains and losses to arrive at year-end balances.)

Instructions

You are the manager in charge of accounting. Write a memo to Vickie Plato, explaining why in some years she must amortize some of the net gains and losses and in other years she does not need to. In order to explain this situation fully, you must compute the amount of net gain or loss that is amortized and charged to pension expense in each of the 4 years listed above. Include an appropriate amortization schedule, referring to it whenever necessary.

Jill Vogel and Pete Dell have to do a class presentation on GAAP rules for reporting pension information. In developing the class presentation, they decided to provide the class with a series of questions related to pensions and then discuss the answers in class. Given that the class has all read the rules related to pension accounting and reporting, they felt this approach would provide a lively discussion. Here are the questions:

1. In an article in BusinessWeek prior to new rules related to pensions, it was reported that the discount rates used by the largest 200 companies for pension reporting ranged from 5% to 11%. How can such a situation exist, and does GAAP alleviate this problem?

2. An article indicated that when new GAAP rules were issued related to pensions, it caused an increase in the liability for pensions for approximately 20% of companies. Why might this situation occur?

3. A recent article noted that while “smoothing” is not necessarily an accounting virtue, pension accounting has long been recognized as an exception—an area of accounting in which at least some dampening of market swings is appropriate. This is because pension funds are managed so that  their performance is insulated from the extremes of short-term market swings. A pension expense that reflects the volatility of market swings might, for that reason, convey information of little relevance.

Are these statements true?

4. Understanding the impact of the changes required in pension reporting requires detailed information about its pension plan(s) and an analysis of the relationship of many factors, particularly the:

(a) Type of plan(s) and any significant amendments.

(b) Plan participants.

(c) Funding status.

(d) Actuarial funding method and assumptions currently used.

What impact does each of these items have on financial statement presentation?

5. An article noted “You also need to decide whether to amortize gains and losses using the corridor method, or to use some other systematic method. Under the corridor approach, only gains and losses in excess of 10% of the greater of the projected benefit obligation or the plan assets would have to be amortized.” What is the corridor method and what is its purpose?

Instructions

What answers do you believe Jill and Pete gave to each of these questions?