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Intermediate Accounting II - DOC

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									                                Intermediate Accounting II
                                  ACCTG 302 Section D

Winter 2005                                        Instructor J.B. Paperman


                                     Midterm Exam 2
                                     February 16, 2005


Name: ____________________________


INSTRUCTIONS:



a) This exam is closed book. You may use one double-sided sheet of notes. You may use a
   calculator to assist in computations.

b) You must complete this exam on your own. No assistance is allowed except that
   provided by the instructor.

c) If you feel there is ambiguity in a problem, state your assumptions clearly.

d) The last page of the exam is a PV table, you may remove this page if you desire.

e) The exam has 9 pages in total and 14 questions with 100 points.




                                    1                           Acctg 302D
 Multiple Choice (3pts each) – Circle the MOST correct answer

 1.    Riser Corporation was granted a patent on a product on January 1, 1995. To protect its patent, the
       corporation purchased on January 1, 2004 a patent on a competing product, which was originally issued
       on January 10, 2000. Because of its unique plant, Riser Corporation does not feel the competing patent
       can be used in producing a product. The cost of the competing patent should be
        A. amortized over a maximum period of 11 years.
        B. expensed in 2004.
        C. amortized over a maximum period of 16 years.
        D. amortized over a maximum period of 20 years.
 A – The useful life is that of the patent it is protecting which will expire 10 years after issued in 1995 or 11
 years from now.

 2.   Purchased goodwill should
      A. be written off by systematic charges as a regular operating expense over the period benefited.
      B. not be amortized.
      C. be written off as soon as possible as an extraordinary item.
      D. be written off as soon as possible against retained earnings.
 B – Goodwill is no longer amortized, only impaired

 3.     How should research and development costs be accounted for, according to a Financial Accounting
        Standards Board Statement?
         A. May be either capitalized or expensed when incurred, depending upon the materiality of the amounts
             involved.
         B. Must be expensed in the period incurred unless it can be clearly demonstrated that the expenditure will
             have alternative future uses or unless contractually reimbursable.
         C. Must be expensed in the period incurred.
         D. Must be capitalized when incurred and then amortized over their estimated useful lives.
 B – expense immediately, unless it is a long lived asset (such as a building) which can be used for other projects
 or it is contract research that has already been resold.

4.    Which of the following is NOT true about the discount on short-term notes payable?
       A. When there is a discount on a note payable, the effective interest rate is higher than the stated discount
          rate.
       B. All of these are true.
       C. The Discount on Notes Payable account should be reported as an asset on the balance sheet.
       D. The Discount on Notes Payable account has a debit balance.
 C – discount is a contra to the note, not an asset.

5.       Which of the following sets of conditions would give rise to the accrual of a contingency under current
         generally accepted accounting principles?
          A. Event is unusual in nature and occurrence of event is probable.
          B. Event is unusual in nature and event occurs infrequently.
          C. Amount of loss is reasonably estimable and occurrence of event is probable.
          D. Amount of loss is reasonably estimable and event occurs infrequently.
      C – if either of these conditions aren’t met it does not need to be accrued.



                                               2                                 Acctg 302D
6.   Ritter Company has 35 employees who work 8-hour days and are paid hourly. On January 1, 2003, the
     company began a program of granting its employees 10 days' paid vacation each year. Vacation days
     earned in 2003 may first be taken on January 1, 2004. Information relative to these employees is as
     follows:

                  HourlyVacation Days Earned        Vacation Days Used
          Year    Wages by Each Employee             by Each Employee

         2003     $17.20                     10                         0
         2004      18.00                     10                         8
         2005      19.00                     10                        10

     Ritter has chosen to accrue the liability for compensated absences at the current rates of pay in effect when
     the compensated time is earned.

     What is the amount of expense relative to compensated absences that should be reported on Ritter's
     income statement for 2003?
      A. $50,400.
      B. $48,160.
      C. $45,920.
      D. $0.
B – 10 days * 8 hours/day * $17.20/hour * 35 employees

7.   Stone, Inc. issued bonds with a maturity amount of $200,000 and a maturity ten years from date of issue.
     If the bonds were issued at a premium, this indicates that
      A. the nominal rate of interest exceeded the market rate.
      B. no necessary relationship exists between the two rates.
      C. the market and nominal rates coincided.
      D. the effective yield or market rate of interest exceeded the (stated) nominal rate.
A – premium means the effective rate was less than the contract rate

8.    When the interest payment dates of a bond are May 1 and November 1, and a bond issue is sold on June 1,
      the amount of cash received by the issuer will be
       A. decreased by accrued interest from May 1 to June 1.
       B. increased by accrued interest from May 1 to June 1.
       C. increased by accrued interest from June 1 to November 1.
       D. decreased by accrued interest from June 1 to November 1.
B – the buyer pays the accrued interest to date so increase by the may-june accrual




                                            3                                 Acctg 302D
9.   (15 points) Fowler Manufacturing Company decided to expand further by purchasing Blye Company. The
     balance sheet of Blye Company as of December 31, 2004 was as follows:

                                                      Blye Company
                                                      Balance Sheet
                                                    December 31, 2004

       Assets                                                  Equities

       Cash                          $  210,000                Accounts payable                $   325,000
       Receivables                      450,000                Common stock                        800,000
       Inventory                        275,000                Retained earnings                   835,000
       Plant assets (net)             1,025,000

       Total assets                  $1,960,000                Total equities                  $1,960,000



     An appraisal, agreed to by the parties, indicated that the fair market value of the inventory was $320,000
     and that the fair market value of the plant assets was $1,425,000. The fair market value of the receivables
     is equal to the amount reported on the balance sheet. The agreed purchase price was $2,300,000, and this
     amount was paid in cash to the previous owners of Blye Company.

      INSTRUCTIONS
     a) Prepare the Balance Sheet for the new division after the acquisition is completed (assume stock is no-
        par).
     b) On 1/1/2005 Fowler hears of a legal ruling that will reduce the likely sales of Blye resulting in a
        decrease in the fair value of the division to $2,000,000. Total future cash flow the division is expected
        to generate is $4.500,000. The Inventory now has a fair value of $300,000 and the equipment has a
        fair value of $1,300,000. Prepare the required journal entry for this event.
a)
       Assets                                                  Equities

       Cash                          $  210,000        Accounts payable                        $  325,000
       Receivables                      450,000        Common stock                             2,300,000
       Inventory                        320,000
       Plant assets (net)             1,425,000
       Goodwill                         220,000 (plug)

       Total assets                   $2,625,000                 Total equities                $2,625,000
b) because the new fair value of the division is lower than the carrying value (2,000,000<2,300,000) the
goodwill is impaired.
New net identified asset value = 210+450+300+1,300-325 = 1,935,000
New goodwill = 2,000,000-1,935,000 = 65,000
Impairment = 220,000 – 65,000 = 155,000
Impairment Expense            155,000
   Goodwill                                   155,000


                                            4                                 Acctg 302D
10.    (15 points) Risen, Incorporated sold its 8% bonds with a maturity value of $2,000,000 on August 1,
2002 for $1,964,000. At the time of the sale the bonds had 5 years until they reached maturity. Interest on the
bonds is payable semiannually on August 1 and February 1. The bonds are callable at 104 at any time after
August 1, 2004.

     By October 1,2004, the market rate of interest has declined and the market price of Risen's bonds has risen
     to a price of 102. The firm decides to refund the bonds by selling a new 6% bond issue to mature in
     5years. Risen begins to reacquire its 8% bonds in the market and is able to purchase $300,000 worth at
     102 (plus accrued interest). The remainder of the outstanding bonds is reacquired by exercising the bonds'
     call feature. Prepare the required journal entries for the repurchase and call of the bonds (Assume the firm
     used straight-line amortization of premium or discount.) Show calculations.

     First amortize the interest through the date of retirement

     Discount originally was $36,000 on 60 month bonds so amortization is $600 per month.
     Interest payment is 8% of 2,000,000 or $160,000 annually

     Since August 1 payment was made we just need to recognize the 8/1 – 10/1 interest or 2 months

     Interest Expense                      27,867
               Discount on Bonds Payable (2*$600)             1,200
               Cash ($160,000 * 2/12)                        26,667

     To remove the bonds we need to determine the unamortized discount.
     From 8/1/02 – 10/1/04 is 26 months, so 34 months remain unamortized.
     From above $600 * 34 – $20,400

     Cash received is:
     1.02* 300,000 =         306,000
     1.04*1,700,000 =      1,768,000
     total cash            2,074,000

     Bonds Payable                      2,000,000
     Loss on Bond Retirement               94,400
              Discount on Bonds Payable                         20,400
              Cash                                           2,074,000




                                             5                                 Acctg 302D
11.   (8 points) Radio One Inc. purchased a broadcasting license in Philadelphia for $500,000 on January 1,
      2001. The license is renewable every 3 years for a fee of $1,500 and Radio One pays their first fee to the
      FCC on January 1, 2003. Due to changes in demographics during 2004 on December 31, 2004 Radio One
      re-evaluates their expected future cash flows and determines the license is expected to produce cash flows
      of $100,000 per year indefinitely. Appraisers also determine that the license could be sold for $1,300,000.

      Required
           a) Prepare the journal entries required for the acquisition of the license and payment of the fee.
           b) Prepare any journal entries required for 12/31/04 (don’t forget that fee).
a)
1/1/01
Intangible Assets (License)              500,000
     Cash                                             500,000

      1/1/03
Intangible Asset (License renewal)       1,500
        Cash                                            1,500
(this will get expensed over the 3 year renewal period)

b)
First amortize another year of the fee
Licensing expense                          500
        Intangible Asset (renewal)                         500

For an intangible asset that has a limited life but fairly low cost renewals the life is considered indefinite. For
and indefinite life asset the impairment check is a comparison of carrying value to fair value (cash flows is not
considered as is the case with limited life intangibles).

Because the fair value is greater than the carrying value no impairment is needed (okay so I typo’d, it was
supposed to be a fair value of $300,000).




                                              6                                  Acctg 302D
12.     (15 points) Hanna’s Hot Dogs issues new 8% debt on January 1, 2005 with a face value of $100,000.
Interest payments are made semi-annually on June 30th and December 31st of each year. Issue costs for the
bonds total $3,500. The bonds will mature on December 31, 2014. Investors in the market are requiring a 10%
return on similar bonds.

     Prepare all the necessary journal entries for transactions related to the bonds that occur in 2005 and 2006
     (Hanna uses the effective interest rate method).


First determine issue price:
Interest payments are $100,000*8%/2 = $4,000 twice annually for 10 years
PV of annuity(20,5%) *$4,000= 12.46221*4000 = 49,849

PV of maturity (10,5%) * 100,000 = .37689*100,000 = 37,689

Issue price = 49,880+37689 = 87,538
We did know that since the effective rate was higher than the stated rate it would be at a discount so this seems
      reasonable.

1/1/2005 issue with costs of issue
Cash                           84,038
Bond Issue Costs                3,500
Discount on Bonds              12,462
     Bonds Payable                    100,000

6/30/05 interest payment
Interest Expense             4,377                (5% * bv of bonds 87,538)
      Discount on Bonds Payable            377     (plug, new Bv of bonds = 87,538+377 = 87,915)
      Cash                               4,000

12/31/05 interest payment
Interest Expense             4,396             (5% * bv of bonds 87,915)
      Discount on Bonds Payable            396 (plug, new Bv of bonds = 87,915+396 = 88,311)
      Cash                               4,000

Interest Expense                 350             (cold also put into bond issue expense)
      Bond Issue Costs                    350

6/30/06 interest payment
Interest Expense             4,416                (5% * bv of bonds 88,311)
      Discount on Bonds Payable            416     (plug, new Bv of bonds = 88,311+416 = 88,727)
      Cash                               4,000

12/31/06 interest payment
Interest Expense             4,436                (5% * bv of bonds 88,727)
      Discount on Bonds Payable            436



                                             7                                  Acctg 302D
     Cash                      4,000

Interest Expense         350           (cold also put into bond issue expense)
      Bond Issue Costs          350




                                  8                                   Acctg 302D
     13.      (8 points) Kenji and Sons Inc. sells 8,000 automobiles in 2004 for an average price of $25,000.
     Each automobile is sold with a 3-year warranty covering various parts. The average cost of repairing
     warranted parts during the 3-year period is $400 per automobile. During 2004 $750,000 of repairs are
     made under the warranties and half of the remaining average amount is performed in each of 2005 and
     2006.

     Prepare the necessary journal entries to record the sale and repair work performed.

2004
First record sale
Sales (8,000 *$25,000)       200,000,000
       Cash                                         200,000,000

Warranty Expense                3,200,000
    Warranty Liability                                3,200,000

    Warranty paid in 2004
Warranty Liability                750,000
      Cash                                               750,000

Warranty paid in 2005
Warranty Liability              1,225,000
     Cash                                              1,225,000

Warranty paid in 2006
Warranty Liability              1,225,000
     Cash                                              1,225,000




                                            9                                Acctg 302D
10   Acctg 302D
  14.     (15 points) Shores Corporation is reviewing three situations to determine the proper accounting
  treatment for their December 31, 2004 financial statements. Details for each situation follow:

  a) Two customers slipped and fell at different retail locations owned by Shores and have sued the
     company. One case is for $150,000 and Shores attorneys believe it is unlikely the case will be lost.
     If it is lost the settlement will most likely be for $90,000. The second case involved a more severe
     injury and the lawsuit is for $4,500,000. Shore’s attorneys believe it is probable that the company
     will lose this case and the likely settlement would be between $2,000,000 and $2,750,000 based on
     previous history. Shores Corporation does not have any insurance coverage that would pay either
     judgment.
  b) DuCharme Inc. released a new product in 2004 that was a blatant copy of Shores most popular selling
     product. Shores has filed a $50,000,000 suit against DuCharme for copyright infringement. Shores
     lawyers are extremely confident that Shores will win the lawsuit and receive a settlement in the full
     amount of the case. The attorneys for DuCharme have already contacted Shores Corporation to make
     multiple offers for settlement with the most recent offer at $30,000,000.
  c) Due to an unexpected problem with a product Shores was the defendant in a class action lawsuit
     during 2004. Shores quickly settled the lawsuit by issuing $500,000 of discount coupons to the
     plaintiffs in November of 2004. Shores has never issued coupons of this type before and is unsure
     how many will be used by customers. During December of 2004 $25,000 worth of coupons were
     redeemed on gross sales of $1,250,000.

  Describe the required accounting treatment for each of these situations along with any required journal
  entries (don’t forget the sales in c). Give a very brief reason for the required treatment.

a) Because the 150,000 suit is remote it is completely ignored – no accrual and no disclosure.(if you
   interpret unlikely as reasonably possible then disclosure needed).
   The second suit is probable and estimable so we must accrue. Given a range with no point more likely
   than another we use the lower end of $2,000,000.

   Litigation Loss        2,000,000
           Litigation Liability         2,000,000
   Also disclose information about the case in the footnotes.

b) This is a gain contingency and thus no accrual is made no matter how likely the positive outcome. We
   would probably disclose information about the litigation in the financial statements but usually in a
   muted way to avoid the appearance that management is “promising” a favorable ruling.

c) In this case the contingent loss is probable since coupons have been issued and some have even already
   been used. However the amount of the loss is not estimable so the amounts are expensed as incurred.
   Accounts Receivable (or cash)           1,225,000
   Loss on Settlement                         25,000
            Sales                                        1,250,000




                                       11                                Acctg 302D

								
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