Question & Answer

Donald Lennon is the president, founder, and majority owner of Wichita Medical Corporation, an emerging medical technology products company. Wichita is in dire need of additional capital to keep operating and to bring several promising products to final development, testing, and production. Donald, as owner of 51% of the outstanding stock, manages the company’s operations. He places heavy emphasis on research and development and long-term growth. The other principal stockholder is Nina Friendly who, as a nonemployee investor, owns 40% of the stock. Nina would like to deemphasize the R & D functions and emphasize the marketing function to maximize short-run sales and profits from existing products. She believes this strategy would raise the market price of Wichita’s stock. All of Donald’s personal capital and borrowing power is tied up in his 51% stock ownership. He knows that any offering of additional shares of stock will dilute his controlling interest because he won’t be able to participate in such an issuance. But, Nina has money and would likely buy enough shares to gain control of Wichita. She then would dictate the company’s future direction, even if it meant replacing Donald as president and CEO. The company already has considerable debt. Raising additional debt will be costly, will adversely affect Wichita’s credit rating, and will increase the company’s reported losses due to the growth in interest expense. Nina and the other minority stockholders express opposition to the assumption of additional debt, fearing the company will be pushed to the brink of bankruptcy. Wanting to maintain his control and to preserve the direction of “his” company, Donald is doing everything to avoid a stock issuance and is contemplating a large issuance of bonds, even if it means the bonds are issued with a high effective-interest rate. Instructions (a) Who are the stakeholders in this situation? (b) What are the ethical issues in this case? (c) What would you do if you were Donald?

Malak has decided to contribute some equipment she previously used in her sole proprietorship in exchange for a 10 percent profits and capital interest in Fast Choppers LLC. Malak originally paid $200,000 cash for the equipment. Since then, the tax basis in the equipment has been reduced to $100,000 because of tax depreciation, and the fair market value of the equipment is now $150,000. a. Must Malak recognize any of the potential §1245 recapture when she contributes the machinery to Fast Choppers? [Hint: See §1245(b)(3).] b. What cost recovery method will Fast Choppers use to depreciate the machinery? [Hint: See §168(i)(7).] c. If Fast Choppers were to immediately sell the equipment Malak contributed for $150,000, how much gain would Malak recognize, and what is its character? [Hint: See §§1245 and 704(c).]

Willie Nelson, Jr., controller for Jenkins Corporation, is preparing the company’s financial statements at year-end. Currently, he is focusing on the income statement and determining the format for reporting comprehensive income. During the year, the company earned net income of $400,000 and had unrealized gains on available-for-sale securities of $15,000. In the previous year, net income was $410,000, and the company had no unrealized gains or losses. Instructions (a) Show how income and comprehensive income will be reported on a comparative basis for the current and prior years, using the two statement format. (b) Show how income and comprehensive income will be reported on a comparative basis for the current and prior years, using the one statement format. (c) Which format should Nelson recommend?

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.

Before Gordon Corporation engages in the treasury stock transactions listed below, its general ledger reflects, among others, the following account balances (par value of its stock is $30 per share). Paid-in Capital in Excess of Par—Common Stock Common Stock Retained Earnings $99,000 $270,000 $80,000 Instructions Record the treasury stock transactions (given below) under the cost method of handling treasury stock; use the FIFO method for purchase-sale purposes. (a) Bought 380 shares of treasury stock at $40 per share. (b) Bought 300 shares of treasury stock at $45 per share. (c) Sold 350 shares of treasury stock at $42 per share. (d) Sold 110 shares of treasury stock at $38 per share.

Cheng Company traded a used truck for a new truck. The used truck cost $30,000 and has accumulated depreciation of $27,000. The new truck is worth $37,000. Cheng also made a cash payment of $36,000. Prepare Cheng’s entry to record the exchange. (The exchange lacks commercial substance.)

Explain how a yield curve would shift in response to a sudden expectation of rising interest rates, according to the pure expectations theory. (LO3)

Reveille Corporation experienced a complete loss of its lumber mill as the result of a fire. The company received $2 million from the insurance company. Rather than rebuild, Reveille decided to distribute the $2 million to its two shareholders. No stock was exchanged in return.  Under what conditions will the distribution meet the requirements to be treated as a partial liquidation and not a dividend?  Why does it matter to the shareholders?

At the beginning of 2014, Aristotle Company acquired a mine for $970,000. Of this amount, $100,000 was ascribed to the land value and the remaining portion to the minerals in the mine. Surveys conducted by geologists have indicated that approximately 12,000,000 units of the ore appear to be in the mine. Aristotle incurred $170,000 of development costs associated with this mine prior to any extraction of minerals. It also determined that the fair value of its obligation to prepare the land for an alternative use when all of the mineral has been removed was $40,000. During 2014, 2,500,000 units of ore were extracted and 2,100,000 of these units were sold. Instructions Compute the following. (a) The total amount of depletion for 2014. (b) The amount that is charged as an expense for 2014 for the cost of the minerals sold during 2014.

Carolina Corporation, an S corporation, has no corporate E&P from its years as a C corporation.  At the end of the year, it distributes a small parcel of land to its sole shareholder Shadiya. The fair market value of the parcel is $70,000, and its tax basis is $40,000. Shadiya’s basis in her stock is $14,000.  Assume Carolina Corporation reported $0 taxable income before considering the tax consequences of the distribution.

What are two methods of recording accounts receivable transactions when a cash discount situation is involved? Which is more theoretically correct? Which is used in practice more of the time? Why?

Carol Keene, corporate comptroller for Dumaine Industries, is trying to decide how to present “Property, plant, and equipment” in the balance sheet. She realizes that the statement of cash flows will show that the company made a significant investment in purchasing new equipment this year, but overall she knows the company’s plant assets are rather old. She feels that she can disclose one figure titled “Property, plant, and equipment, net of depreciation,” and the result will be a low figure. However, it will not disclose the age of the assets. If she chooses to show the cost less accumulated depreciation, the age of the assets will be apparent. She proposes the following. Property, plant, and equipment, net of depreciation $10,000,000 rather than Property, plant, and equipment $50,000,000 Less: Accumulated depreciation 40,000,000 Net book value $10,000,000 Instructions Answer the following questions. (a) What are the ethical issues involved? (b) What should Keene do?

Carlos Arruza Company exchanged equipment used in its manufacturing operations plus $3,000 in cash for similar equipment used in the operations of Tony LoBianco Company. The following information pertains to the exchange. Carlos Arruza Co. Tony LoBianco Co. Equipment (cost) $28,000 $28,000 Accumulated depreciation 19,000 10,000 Fair value of equipment 12,500 15,500 Cash given up 3,000 Instructions (a) Prepare the journal entries to record the exchange on the books of both companies. Assume that the exchange lacks commercial substance. (b) Prepare the journal entries to record the exchange on the books of both companies. Assume that the exchange has commercial substance.

Explain the difference between service cost and prior service cost.

What are the advantages of snap fitting?

Rock Creek LLC was recently formed with the following members: Name Tax Year-End Capital/Profits % Mark Banks December 31 35% Highball Properties LLC March 31 25% Chavez Builders Inc. November 30 40% What is the required taxable year-end for Rock Creek LLC?

Imagine that you are an ambassador of a developing country at an international conference. What would you try to persuade the rich countries to do in order to help you and other poor countries overcome the debt problem? How would you set about persuading them that it was in their own interests to help you?

Danica Patrick, Inc. includes the following account among its trade receivables.   Instructions Age the balance and specify any items that apparently require particular attention at year-end.

Compare and contrast the method of allocating income or loss to owners for partnerships and for S corporations.

This year Lloyd, a single taxpayer, estimates that his tax liability will be $10,000.  Last year, his total tax liability was $15,000.  He estimates that his tax withholding from his employer will be $7,800.   a. Is Lloyd required to increase his withholding or make estimated tax payments this year to avoid the underpayment penalty?  If so, how much?

Why is the minimum point of the AVC curve at a lower level of output than the minimum point of the AC curve?

If a retailer buys a product from a wholesaler for £80 and sells it to a consumer for £100, then the £20 of value that has been added will go partly in wages, partly in rent and partly in profits. Thus £20 of income has been generated at the retail stage. But the good actually contributes a total of £100 to GDP. Where then is the remaining £80 worth of income recorded?

Discuss how a change in accounting policy is handled when it is impracticable to determine previous amounts.

A continuous hot rolling mill has two stands. Thickness of the starting plate = 25 mm and width = 300 mm. Final thickness is to be 13 mm. Roll radius at each stand = 250 mm. Rotational speed at the first stand = 20 rev/min. Equal drafts of 6 mm are to be taken at each stand. The plate is wide enough relative to its thickness that no increase in width occurs. Under the assumption that the forward slip is equal at each stand, determine (a) speed vr at each stand, and (b) forward slip s. (c) Also, determine the exiting speeds at each rolling stand, if the entering speed at the first stand = 26 m/min

Presented below are two independent situations related to future taxable and deductible amounts resulting from temporary differences existing at December 31, 2014. 1. Mooney Co. has developed the following schedule of future taxable and deductible amounts. 2015 2016 2017 2018 2019 Taxable amounts $300 $300 $300 $ 300 $300 Deductible amount — — — (1,600) — 2. Roesch Co. has the following schedule of future taxable and deductible amounts. 2015 2016 2017 2018 Taxable amounts $300 $300 $ 300 $300 Deductible amount — — (2,300) — Both Mooney Co. and Roesch Co. have taxable income of $4,000 in 2014 and expect to have taxable income in all future years. The tax rates enacted as of the beginning of 2014 are 30% for 2014–2017 and 35% for years thereafter. All of the underlying temporary differences relate to noncurrent assets and liabilities. Instructions For each of these two situations, compute the net amount of deferred income taxes to be reported at the end of 2014, and indicate how it should be classified on the balance sheet.