exam 2, acct 414, spring · web viewexam 2 acct 414 – corporate accounting &...

Exam #_______

Start time: _________Stop time: _________

Name: ____________________________________

Exam 2Acct 414 – Corporate Accounting & Reporting II

Spring 2008Show any necessary computations if you want to be eligible for partial credit. Present your work in a neat, well-organized manner. If you are using a PV calculator, spell out what you put in for n, i, PMT, FV, PV, etc. Follow the instructions and answer all parts of the question as directed.

Pension Accounting1. Work Paper {FASB No. 158} (45 points) ______________

2. Prior service cost (15 points) ______________

3. Service cost (15 points) ______________

Stock-based Compensation & Earnings Per Share4. Stock appreciation rights (15 points) ______________

5. Earnings per share (55 points) ______________

Deferred Income Taxes

6. Deferred Income Taxes (55 points) ______________

7. Extra credit (matching) – maximum 10 points

8. Accounting changes (Extra credit – maximum 10 points)

Total points earned (max = 200)%

If you tear off the working papers, be sure your name is on the top AND that you staple the exam back together in page number order.

Do not attempt extra credit section until all other sections of the exam have been completed.

After Exam 2 - Course GradeTotal Points = __________/__________ = _________%

Quiz and HW percentage = ___________%

Projects percentage = ___________%

Exam 2 – Acct 414 – Spring 2008

1. Pension Accounting (45 points). The Tensed Terminals Corporation initiated a noncontributory defined benefit pension plan on January 1, 1980 and applied the provisions of FASB Statement 87 as of January 1, 1987. FASB Statement No. 158 was implemented as of January 1, 2006. Plymouth Plows uses the straight-line method, based on average remaining service period of employees, to amortize prior service costs.

2007BALANCES AS OF JANUARY 1, 2007Projected Benefit Obligation 700,000 Plan Assets at market 530,000 Funded status (170,000)Unrecognized transition cost/(gain) Straight-line amortization at $0 per year - Unrecognized Prior Service Cost 288,000 Straight-line amortization at $32,000 per yearUnrecognized (gains)/losses 100,000

OTHER INFORMATION: Service cost for year 43,000 Discount rate for year 7.00% Expected rate of return on plan assets 10.00% Actual return on plan assets: gain/(loss) 58,000 Pension plan contribution 75,000 Retirement benefits paid during year 37,000 Average remaining service years related to active employees 12 Increase/(decrease) in PBO during year due to revised actuarial assumptions 18,000

REQUIRED:a. Compute net periodic pension expense for 2007. (Be sure to show all of the components of

pension expense.) Prepare the journal entry needed to record pension expense and funding of pension plan.

b. Compute the balances in accumulated other comprehensive income, projected benefit obligation, and plan assets at 1/1/08

c. Explain (or show) how the net pension obligation or net pension asset will be displayed on the balance sheet at 12/31/07. Will there be other pension related accounts on the balance sheet? If so, explain where and how they are presented. Provide amounts.

Note: Completing the worksheet provided will be an acceptable answer for a and b.


2. Amortization of prior service cost using years-of-service method. (15 points)

On January 1, 2008, Seattle Sinks Inc. amended its pension plan which caused an increase of $4,300,000 in its projected benefit obligation. The company has 750 employees who are expected to receive benefits under the company's defined benefit pension plan. The personnel department provided the following information regarding expected employee retirements:

Number of Expected Retirements Remaining YearsEmployees On December 31 _ of Employment

100 2012 5 years200 2017 10 years150 2022 15 years

300 2027 20 years750

Instructions(a) What is the average remaining service life?

(b) Using the straight-line method, what would amortization of prior service costs be for 2008?

(c) Using the years-of-service method, what would amortization of prior services costs be for 2018?


3. Pension Present Value Computations (15 points). Snoquality Snomobiles Inc. has a defined benefit pension plan. The formula is the final year’s annual salary times 2% times years of service. Consider one employee in the plan – Sarah Skier. At the beginning of the 2008, Sarah is 57 years old, earns $70,000 per year and expects to work 8 more years until retirement.

At the end of 2008, she received a 5% salary increase and this rate is expected to be a reasonable estimate for future years. Sarah already has 10 years of service with the company and she is expected to live 25 years after she retires.

You may assume ordinary annuities and end-of-year annual payments upon retirement and a 5% per annum discount rate.

What is the service cost for Sarah Skier for the year ended December 31, 2008?


4. Stock-based compensation –Liability Award (15 points) Bronze Inc. is a publicly traded company. The president, Bob Zinc, was given stock appreciation rights (SARS) on the appreciation of 100,000 shares of Bronze Inc. common stock. The SARS were granted on December 31, 2007 when the stock was selling for $20 per share (the base price). Mr. Bronze will receive all price appreciation from the date of the grant until the date of exercise in the form of cash. The earliest possible exercise date was identified as January 1, 2010, and, if not exercised, the SARS will expire on July 1, 2010. The relevant market prices and fair values are given in the table below. Assume that Bob Zinc exercised all the options on June 15, 2010 when the common stock was selling for $32 per share. If no entry is needed at the specified dates, the answer is “not applicable.”

Date Market Price

Fair Value

12/31/07 $20 $12

12/31/08 $25 $15

12/31/09 $19 $10

06/15/10 $32 $12

Prepare all necessary entries on Bronze Inc.’s books.

12/31/07

12/31/08

12/31/09

6/15/10


5. Earnings per share (55 points) The following information was taken from the books and records of Yarrow, Inc.:

Capital structure:a. Convertible 6% bonds issued at par. Each of the 500, $1,000 bonds is convertible into 50 shares of common stock at the present date and for the next 10 years. Total face value $500,000 at beginning of the year. No bonds were converted during the year. The conversion ratio and stock prices have already been adjusted for stock splits and stock dividends.

b. $10 par common stockOn January 1, 2007, Yarrow Corporation had 1,000,000 shares of common stock outstanding. On March 1, the corporation issued 150,000 new shares to raise additional capital. On July 1, the corporation declared and issued a 2-for-1 stock split. On October 1, the corporation purchased on the market 600,000 of its own outstanding shares and retired them.

c. Stock warrantsOn January 1, there were 160,000 shares warrants outstanding. Each warrant entitles the holder to buy one share of common stock for $20 per share. Warrants were outstanding all year (no warrants were exercised during the year). Stock price and warrant figures have already been adjusted for stock splits and stock dividends.

d. Cumulative convertible preferred stock. During 2007, there were 50,000 shares of convertible preferred stock outstanding. The preferred is $100 par, pays $10 a year dividend, and is convertible into eight shares of common stock after the stock split.

Other information:Income tax rate 30%Average market price per share of common stock during the year $32

Instructions(a) Compute the weighted average number of common shares outstanding.

Dates Outstanding Adjustment Months Weighted

Weighted average = ____________________________ shares


Problem 5 (continued)Regardless of your answer to (a), assume that the weighted average number of common shares outstanding is 2,000,000 for parts (b) and (c). You may use the work paper provided below or formulas but please write your answers in the space provided:

(b) Compute the basic earnings per share for 2007. $_________________________

(c) Compute the diluted earnings per share for 2007. $___________________________

Numerator Denominator Per ShareNet income $2,800,000 2,000,000


6. Deferred tax asset (55 points)

Hatley Inc. began business on January 1, 2007. Its pretax financial income for the first 2 years was as follows:

2007 $700,0002008 800,000

The following items caused the only differences between pretax financial income and taxable income.

1. On January 2, 2007, heavy equipment costing $1,000,000 was purchased. The equipment had a life of 5 years and no salvage value. The straight-line method of depreciation is used for book purposes and the MACRS tax deduction taken each year is shown in the table below:

2007 2008 2009 2010 2011 TotalFor tax $250,000 $400,000 $300,000 $50,000 0 $1,000,000For accounting 200,000 200,000 200,000 200,000 200,000 $1,000,000

2. In 2007, Hatley accrued a contingent liability of $70,000 related to a lawsuit. It is estimated that the litigation liability will be paid in 2010.

3. Hatley recognized $50,000 in unearned rent revenue. This deferral is required under GAAP but the full amount is taxable in the year received. Rent revenue will be recognized during the last year of the lease, 2009.

4. Interest revenue from New York municipal bonds is expected to be $20,000 each year until their maturity at the end of 2011.

The enacted tax rates existing at December 31, 2007 are 30% for 2007, rising to 35% for 2008 and later years. There were no changes in the tax rates in 2008.

Instructions(a) Compute taxable income and income tax payable/receivable for the 2007 and 2008.(b) Prepare an inventory of the deferred tax (asset) and liability and determine the net deferred

tax asset or liability as of 12/31/07 and 12/31/08. (c) Prepare the journal entry to record income tax expense, deferred taxes, and the income

taxes payable for 2007.(d) What amounts will appear on the 2008 balance sheet related to the deferred taxes? Be

sure to tell me whether the amount is classified as current or noncurrent.

Show your computations and answers as instructed on the next page.


Answers for Problem 6

(a) Compute taxable income and income tax payable/receivable for the 2007 and 2008. I can grade from workpaper if used

(b) Prepare an inventory of the deferred tax (asset) and liability and determine the net deferred tax asset or liability as of 12/31/07 and 12/31/08. I can grade from workpaper if used

(c) Prepare the journal entry to record income tax expense, deferred taxes, and the income taxes payable for 2007. (Workpaper answer is NOT sufficient for this one!)

(d) What amounts will appear on the 2008 balance sheet related to the deferred taxes? Be sure to tell me whether the amount is classified as current or noncurrent. (Workpaper answer is NOT sufficient for this one!)

Amounts on 12/31/08 balance sheet related to deferred income taxes:


7. EXTRA CREDIT: Permanent and temporary differences (10 points maximum)

Listed below are items that are treated differently for accounting purposes than they are for tax purposes. Indicate whether the items are permanent differences or temporary differences. For temporary differences, indicate whether they will create deferred tax assets or deferred tax liabilities.

A Temporary difference – deferred tax liabilityB Temporary difference – deferred tax assetC Permanent differenceD None of the above

______ 1. Completed contract method for tax return and percentage of completion for income statement

______ 2. Estimated future warranty costs.______ 3. Contingent liability for court costs related to patent infringement case.______ 4. First and last year’s rent received in advance on a 3 year lease.______ 5. Penalty for late payment of payroll taxes.______ 6. Installment sales handled on the full accrual method under GAAP.______ 7. Revenues from 3-year magazine subscriptions received in advance.______ 8. Unrealized loss on marketable securities.______ 9. Excess of statutory depletion over depletion expense on income statement______10. Proceeds from life insurance policy received by company on death of president.

8. Accounting for Changes (extra credit, maximum 10 points)1. The four types of accounting changes, including error correction, are (Type column):

A. Change in accounting principle.B. Change in accounting estimate.C. Change in reporting entity.D. Error correction.

The accounting treatments are handled in three ways (Acct column):e. Retroactive restatementf. Prospectiveg. Disclosure only (restatement not practical)

Instructions - Following are a series of situations. You are to enter two code letters in the appropriate columns to indicate the (1) type of change and (2) the accounting treatment. (1 point each, 10 points total)

Type Acct Description

Changing the companies included in combined financial statements.

Change from weighted average to LIFO inventory procedures.

Change from double declining balance to the straight-line depreciation method for an asset purchased 3 years earlier.

Change from a unacceptable to acceptable accounting principle.

Change from percentage of completion to the completed contract method for long-term contracts.


For Problem 1 Name:


For Problem 6 Name:______________________________


SOLUTIONS

Problem 1

2. Years of service methodNumber of expected

retirements Year of retirement (on Dec 31)Years of Work

Remaining TOTAL 100 2012 5 years 500 200 2017 10 years 2,000 150 2022 15 years 2,250 300 2027 20 years 6,000

750 10,750

a. Average remaining service life = 10,750/750 employees = 14.33 yearsb. For SL, divide total by average remaining service life: $4,300,000/14.33 years = $300,000c. For the first five years, there are 750 employees so 750/10,750 * $4,300,000 = $300,000 (same as straight-line method). However, for the next 5 years, there are only 650 employees left so 650/10,750 * $4,300,000 = $260,000 per year. For 2018, the fraction will be 450/10,750 8 $4,300,000 = $180,000.

Schedule on next page is not necessary


Note that I used 7 years in the first step because it is unlikely she would get a raise the day she retires. In other words, she gets raises at age 58,59,60,61,62,63,64. I didn’t take off if you used 8 periods in the first step but I think this way makes more sense! Obviously for the last step, there are only 7 years left to work and you MUST use n-1 or 7 for that part. Please note that the question was about service cost (like on the pension working paper) not prior service cost at the date of a plan amendment and not PBO at a particular date. Careful reading of problems is essential!


4. This is a liability award – we can estimate the fair value at the grant date but we don’t actually use it for liability awards. Instead, we re-estimate the fair values at each balance sheet date (as given in problem). The period over which compensation is spread is from the grant date to the first date upon which the SARS can be exercised. In this case, it is a two-year period. Note that the actual amount of compensation is unknown until the actual exercise date so we must continue to ESTIMATE compensation expense during the exercise period using a fair value determined by the Black Scholes or binomial pricing models. The “fair value” at exercise always equals the intrinsic value (market price – base price or strike price).

12/31/07 No entry – memo only – the original value is $1,200,000 but nothing has been earned($12 fair value * 100,000 shares * 0% earned)

12/31/08 – half earned, fair value $15 per share * 100,000 shares * 50% earned (1 out of 2 years)Compensation expense $750,000

SARS liability 750,000

12/31/09 vesting date: $10 fair value * 100,000 options * 100% earned (2 over 2 years) = $1,000,000 liability. A t-acct can help show that the existing liability of $750,000 must be credited by an amount that will result in a liability of $1,000,000 as of `12/31/09Compensation expense 250,000


6/15/10 – step 1, correct the liability account to the proper balance:100,000 options at intrinsic value ($32 market - $20 base price) * 100% earned = $1.2 MillionCompensation expense 200,000


6/15/10 – step 2, write the check to Bob ZincSARS Liability 1,200,000

Cash 1,200,000{A combined entry is also perfectly acceptable}

SARS Liability 750,000 at 12/31/08 250,0001,000,000 at 12/31/09 200,000 adjustment at

exercise

1,200,000 at 6/15/10


Problem 5a

For Problem 5b & 5c


Problem 6 – only first 2 columns need to be completed but showing the reversal of the temporary differences helps to classify the deferred tax assets/liabilities as current or noncurrent

(a), (b) and (d) on working paper above. Note that the tax rate for the temporary difference in 2007 is at the currently enacted higher rate for 2008 (35% not 30% applied to taxable income in 2007).

(c) Income Tax Expense (what it takes to balance)...................................... 200,500Deferred Tax Asset (using 35% future rate)............................................ 24,500

Income Tax Payable ($750,000 × 30%)..................................... 225,000

Comments: The tricky items are (1) the $50,000 in unearned rent revenue because it is noncurrent in 2007 but current in 2008 and (2) the contingent liability which is noncurrent until 2009. We present deferred taxes on the balance sheet as two amounts by netting the current items and then netting the noncurrent items. For 2007 (not required) we have a noncurrent deferred tax asset of $24,500 because all items are noncurrent. For 2008, the rent will be deductible within 12 months and gives us a current deferred tax asset of $17,500. The contingent liability is still noncurrent and is therefore combined with the depreciation item (always noncurrent) and the result is a net credit of $180,000 * 35% = $63,000.

7 Matching – extra credit1. A 2. B 3. B 4. B 5. C6. A 7. B 8. B 9. C 10. C8, Matching – extra credit1.t = C 2.t = A 3.t = B 4.t = D 5.t = A1.a = e 2.a = g 3.a = f 4.a = e 5.a = e

exam 2, acct 414, spring · web viewexam 2 acct 414 – corporate accounting &...

Documents