Solution manual intermediate accounting 9e by nicolai ch11

To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com CHAPTER 11 INTANGIBLES CONTENT ANALYSIS OF EXERCISES AND PROBLEMS Number Content Time Range (minutes) E11-1 Patent Amount to be capitalized Determination of economic life 5-10 E11-2 Patent Journal entries to record all transactions 5-10 E11-3 Tradename Computation of ending carrying value 5-10 E11-4 Start-up Costs Determination of amount to be expensed 5-10 E11-5 Research and Development Costs Preparation of journal entry to record research and development costs 5-10 E11-6 (AICPA adapted) Research and Development Costs Determination of amount charged to income 5-10 E11-7 Research and Development Determination and justification of R&D activities 5-10 E11-8 Research and Development Determination and justification of current period R&D costs 5-15 E11-9 Intangibles Computation of amortization expense 10-15 E11-10 Tradename Preparation of journal entry to record impairment 10-15 E11-11 Goodwill Preparation of journal entry to record impairment 15-20 E11-12 Goodwill Computation with fair values of assets given 10-15 E11-13 (Appendix) Normal Earnings and Goodwill Computation from numerous items Extraordinary gain, liquidation of LIFO layer, amortization, depreciation, profit sharing payments 10-15 E11-14 (Appendix) Goodwill Computation of implied goodwill using five-year averages Changes in capitalization rates 10-15 E11-15 (Appendix) Goodwill Computation under two different proposals and determination of most reasonable approach 10-15 11-1 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Number Content Time Range (minutes) E11-16 (Appendix) (AICPA adapted) Goodwill Computation of implied goodwill, given the past five years' cumulative earnings and the annual earnings based on an average rate of return 5-15 E11-17 (Appendix) Goodwill Computation under various assumptions Different capitalization rates and annual earnings life spans 10-15 E11-18 (Appendix) Estimated Future Annual Earnings Computation from various items Purchase price, goodwill, capitalization and normal rate of return percentages 10-15 P11-1 Intangibles Patent, franchise, rights to a novel Journal entries to record transactions and amortization 20-30 P11-2 Intangibles Franchise, tradename, copyright Journal entries to record transactions and any amortization 20-30 P11-3 Classification of Intangibles Adjusting journal entries to correctly classify intangibles 20-30 P11-4 Patents Adjusting journal entries to correct the patent account 15-20 P11-5 Patents Journal entries to record various transactions Purchase, costs of improving, legal fees, licensing, royalty receipt 20-30 P11-6 (AICPA adapted) Research and Development Determination of amount charged to income Materials used, equipment acquired, personnel, consulting fees, indirect costs 10-15 P11-7 Intangibles Straight-line (to nearest month) amortization method Patent, franchise, R&D costs, tradename, goodwill Journal entries 20-30 P11-8 Copyright Journal entries to record various events Production, sales, royalties 15-20 P11-9 Research and Development Preparation of the financial statements according to GAAP Return on assets 20-30 P11-10 Intangibles Preparation of journal entries to record correct information under GAAP 30-40 P11-11 Impairment Preparation of journal entries to record impairment and subsequent amortization expense 30-40 P11-12 Goodwill Computation of implied goodwill if differing amounts are paid Journal entries to record acquisition and amortization 30-40 11-2 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Number Content Time Range (minutes) P11-13 (AICPA adapted) Intangibles: Expense and Disclosure Prepare schedules to determine intangible assets and related expenses 20-30 P11-14 (AICPA adapted) Intangibles: Assets and Expenses Prepare schedules to determine intangible assets and income statement effects of several transactions and events 20-30 P11-15 (AICPA adapted) Comprehensive: Intangibles Numerous intangible asset transactions Worksheet to adjust accounts Preparation of financial statements 45-60 P11-16 (AICPA adapted) Comprehensive: Intangibles Prepare schedules to determine intangible assets and related expenses 35-45 P11-17 (AICPA adapted) Comprehensive Adjustments Prepare correcting entries for software, bad debts, inventories, prepaid insurance, depreciation, research and development, and other items Prepare corrected financial statements 45-80 P11-18 (Appendix) Goodwill Computation using five-year averages Includes extraordinary loss and gain 20-30 P11-19 (Appendix) Goodwill Determination of implied goodwill if cash is paid, if earnings are based on a five-year average, if earnings are based on apparent trend 40-60 ANSWERS TO QUESTIONS Q11-1 Intangible assets are distinguished from tangible assets by the fact that intangibles not have a physical substance In addition, intangible assets generally have a higher degree of uncertainty regarding the future benefits to be derived, their value is subject to wider fluctuations, they may have value only to a particular company, and they may have indeterminate lives Intangible and tangible assets have characteristics in common since both are held for use in the course of business, have useful lives of more than one year, and contribute to the generation of revenues Tangible assets are depreciated Intangible assets are separated into three categories to determine whether or not they are amortized, and how they are reviewed for impairment An intangible asset with a finite (limited) life is amortized over its useful life; an intangible asset with an indefinite life and goodwill are not amortized but are reviewed for impairment at least annually Q11-2 Identifiable intangibles are assets, such as patents and franchises, that are clearly identifiable and separate Unidentifiable intangibles are assets that cannot be acquired by themselves and cannot be separated from the other assets acquired 11-3 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Q11-3 When accounting for the cost of identifiable or unidentifiable intangibles, a company distinguishes between those that are purchased and those that are internally developed It capitalizes all intangibles that are purchased, whereas it separates internally developed intangibles into identifiable or unidentifiable It then capitalizes the identifiable asset (except research and development) and expenses the unidentifiable intangible Q11-4 In accordance with FASB Statement No 142, intangible assets are separated into three categories to determine whether or not they are amortized and how they are reviewed for impairment The three categories are: intangible assets with a finite (limited) life are amortized over their useful lives; intangible assets with an indefinite life and goodwill are reviewed for impairment at least annually (Some intangibles acquired prior to November 1, 1970 were considered not to have a decline in value or a limited economic life and, therefore, are not amortized.) Q11-5 A company selects the amortization method based on the expected pattern of benefits the intangible asset will produce, except that if the company cannot reliably determine the pattern, it must use the straight-line method Q11-6 In estimating the economic life of an intangible, a company should consider the following factors: The expected use of the asset The expected useful life of another asset that is related to the life of the intangible asset, such as the mineral rights that relate to a depleting asset Any legal, regulatory, or contractual provisions that enable renewal or extension of the asset’s legal or contractual life without substantial cost The effects of obsolescence, demand, competition, and other economic factors The level of maintenance costs required to obtain the expected future cash flows from the asset Q11-7 Research is the planned search or critical investigation aimed at discovery of new knowledge with the hope that such knowledge will be useful in developing a new product or service or a new process or technique or in bringing about a significant improvement to an existing product or process Development is the translation of research findings or other knowledge into a plan or design for a new product or process or for a significant improvement to an existing product or process whether intended for sale or use Q11-8 Activities that are included in research and development (R&D) are as follows: Laboratory research for new knowledge Searching for application of new research and knowledge Conceptual formulation and design of possible product/process alternatives Testing of product/process alternatives Modification of design of a product or process Design, construction, testing of preproduction prototypes Design of tools, etc., involving new technology Design, construction, operation of pilot plant that is not economically feasible for commercial production Engineering activity to advance the design of a product to meet requirements and get it ready for manufacture 11-4 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Q11-8 (continued) Among activities excluded from research and development are the following: Engineering in early phase of commercial production Quality control, testing, etc., during commercial production Trouble-shooting in connection with breakdowns during production Routine efforts to refine and enrich the qualities of existing products Adaptation to a particular requirement or customer need Seasonal and periodic design changes to existing products Routine design of tools, jigs, molds, dies Activities in construction, relocation, rearrangement, or start-up of facilities other than pilot plant or those used solely for research and development projects Legal work in connection with patent applications, litigation, sale, or licensing Q11-9 A company includes expenditures for the following elements of R&D in R&D costs: Materials, equipment, and facilities Personnel Intangibles purchased from others Contract services Reasonably allocated indirect costs However, if any of the costs have alternative future uses, they are capitalized and then depreciated or amortized over their useful lives This depreciation or amortization is included in R&D expense Q11-10 One alternative considered by FASB Statement No was to expense all R&D costs when incurred The main argument in favor of this was the high degree of uncertainty regarding the future benefits of R&D projects; opponents, on the other hand, argued that a policy of expensing all costs would result in a significant understatement of assets if there were identifiable future benefits A second alternative was to capitalize all costs as incurred Supporters felt that companies only undertook R&D projects to develop future benefits and thus an asset should be recorded Against this was the argument that this policy would be inconsistent with the principle of recording the asset at cost and expensing this cost over the life of the asset, especially when such uncertainty existed about any future benefits A third alternative, to capitalize those costs that meet specific conditions and expense all others, was favored because it evaluated each project individually as to any future benefits However, opponents argued that the criteria for capitalization of costs would be difficult to establish and implement, thus reducing comparability between companies A fourth alternative was to establish a special classification on the balance sheet for the research and development costs An argument in favor of this alternative was that research and development costs could be specially classified in this account until sufficient information was available to make an objective decision about future benefits, if any Opponents argued that this procedure violated the fundamentals of accounting in that the research and development costs would be considered neither an asset nor an expense 11-5 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Q11-11 Patents have a legal life of 20 years, but may not be useful for that full amount of time due to technological changes, competition, or a change in demand Thus, a patent is amortized over its expected useful life or 20 years, whichever is shorter Copyrights have a legal life of 70 years, but the expected useful life is generally indefinite Therefore, a copyright is not amortized unless there is evidence of a limited life Goodwill is not amortized Q11-12 A company records a patent acquired by purchase at cost Thus, in (a) it capitalizes the asset at $90,000 It also capitalizes (b) internally developed identifiable intangibles, but only those costs directly associated with the obtaining of the legal rights Only if the $100,000 is the total of such direct costs, would the company capitalize this full amount Q11-13 Four possible components of goodwill are an advantageous location, superior employees or managers, a good reputation, or a group of reliable customers Q11-14 From an asset valuation standpoint, goodwill is the difference between the purchase price (market value) of the company as a whole and the fair value of the net identifiable assets From an income perspective, goodwill can be defined as a company's ability to earn a rate of return on the fair value of its identifiable net assets that is higher than the normal rate of return Q11-15 Factors that may account for the difference between the value of a company as a whole and the book value of the net assets include: Although assets are generally carried on the books at historical cost, the fair value of these assets may be different There may be identifiable intangible assets that have been expensed, such as research and development costs, or are undervalued Unidentifiable assets may exist that have been expensed Q11-16 Goodwill is capitalized at acquisition only when it results from the purchase of a company or of a significant portion of a company (at a price greater than the fair value of the net identifiable assets acquired), the value can be established with reasonable reliability and by capitalizing this amount the buyer is recording the asset (goodwill) purchased at cost Internally developed goodwill is expensed as the costs are incurred This procedure is favored because a company, by recognizing internal goodwill, is valuing assets based upon future expected earnings, not on the cost of those assets Also, a reliable valuation of internally developed goodwill would be very difficult Q11-17 Internal goodwill is the ability to earn excess profits, or the difference between the fair value of the net assets and the value of the company as a whole, that the company itself has developed over the years External goodwill is that same ability or difference but one that was purchased when another company or significant portion of a company was acquired The cost of internal goodwill is expensed as incurred and external goodwill is capitalized when it is purchased, and is reviewed for impairment at least annually 11-6 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Q11-18 Goodwill is never amortized A company must review its goodwill for impairment at least annually at the reporting unit level It must also review its goodwill for impairment whenever events or changes in circumstances occur that would more-likelythan-not reduce the fair value of the goodwill below its carrying value Examples of events or changes in circumstances that indicate that goodwill may be impaired include a significant adverse change in the business climate or market, a legal issue, an action by regulators, unanticipated competition, a loss of key personnel, and a more-likely-than-not expectation arises that a reporting unit will be sold A company reviews its purchased goodwill for impairment using a two-step approach First, the company compares the fair value of the reporting unit with its book value (including goodwill) The fair value of a reporting unit is the amount at which the unit as a whole could be bought or sold in a current transaction between willing parties If the fair value of the reporting unit is greater than the book value, goodwill is not considered to be impaired and the second step is not necessary If the fair value of the reporting unit is less than its book value, the second step of the impairment test must be performed to measure the amount of the impairment loss, if any The second step is the recognition of an impairment loss for the amount by which the implied fair value of the goodwill is less than its carrying value To determine the implied fair value of the goodwill, the company first allocates the fair value of the reporting unit to all the identifiable assets and liabilities of the unit as if the unit had been acquired and the fair value was the purchase price Then the implied fair value of the goodwill is the excess “purchase price” over the amounts assigned to the identifiable assets and liabilities The impairment loss is the difference between the carrying value of the goodwill and the lower implied fair value of the goodwill When the company records the impairment loss, it reduces the carrying value of the goodwill to the lower fair value Q11-19 It is true that goodwill is different from other assets in its nature However, writing off goodwill directly to stockholders' equity recognizes goodwill neither as an asset nor as an expense Also, although there is some inconsistency between expensing internal and capitalizing external goodwill, the purchase of goodwill in an arm's-length transaction does establish a valuation for this asset And if this valuation is known, it should be capitalized as is done with other assets Q11-20 Negative goodwill is the excess of the book value of a company as a whole over the fair value of its identifiable net assets The acquiring company allocates the negative amount proportionately to reduce the amounts assigned to the noncurrent assets acquired, except financial assets other than those accounted for by the equity method, assets to be sold, deferred tax assets, prepaid assets relating to pension and other postretirement benefits, and any other current assets Any excess that remains after reducing those assets to zero is reported as an extraordinary gain Q11-21 The eight steps involved in estimating the value of goodwill are as follows: Estimate average future annual earnings from identifiable net assets Estimate the rate of return that should be earned on identifiable net assets Estimate current fair value of identifiable net assets Compute estimated excess annual earnings Estimate expected life of excess annual earnings Compute present value of excess annual earnings Compute total value of acquired company Apply sensitivity analysis 11-7 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Q11-22 Average future expected annual earnings are estimates of the annual earnings projected for a company averaged over a number of future years Normal rate of return is the rate of return that should be earned by the company taking into account the riskiness of the investment and other alternatives Excess annual earnings are the difference between the estimated average future annual earnings and the normal rate of return on the fair value of the identifiable net assets The expected life of excess annual earnings is the period of time that the higher than normal rate of return can be expected to continue due to the goodwill existing at the time of purchase The current fair value of identifiable net assets is the book value of identifiable net assets increased or decreased by any differences between book value and fair value of each asset or liability ANSWERS TO CASES C11-1 (AICPA adapted solution) The legal costs in defending the validity of the patent and those costs incurred in the successful outcome of the infringement suit are properly capitalized according to sound accounting logic, as indicated in the detailed Patent account in the case However, the cost of litigation in successfully defending a patent case is required, in conforming to the income tax regulations, to be charged to expense in the tax year in which it is incurred As an auditor, you should inform your client as to the income tax requirements, which also provide that damages received from such litigation are included in gross income Correspondingly, costs of litigation are deductible as expenses The cost of improvements, unpatented, have not extended the legal life of the patent, and are in the form of "repairs" to reduce the possibility of supersession by a better device There is no certainty that the improvement will affect the productive life of the patent, and if so, the improvements should be patented Only expenditures necessary to protect the patent rights are elements of cost, which would include experimental, research and development, labor, materials, and overhead; government and attorney fees; models; etc The company has failed to amortize any portion of the patent The shorter useful life period should be the period of amortization Factors such as obsolescence, supersession, change in demand, and inadequacy should all be considered in determining the amount of amortization to be taken The auditor should confer with the corporation officers concerning this matter The amortization may be divided into charges to retained earnings for the portion applicable to prior years, and to current income for the current portion 11-8 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com C11-2 (AICPA adapted solution) The costs of research equipment used exclusively for Trouver would be reported as research and development expenses in the period incurred The costs of research equipment used on both Trouver and future research projects would be capitalized and shown as equipment (less accumulated depreciation) on the balance sheet An appropriate method of depreciation should be used Depreciation on capitalized research equipment should be reported as a research and development expense a Matching refers to the process of expense recognition by associating costs with revenues on a cause and effect basis b Research and development costs are expensed in the period incurred and may not be matched with revenues This accounting treatment is justified by the high degree of uncertainty regarding the amount and timing of future benefits A direct relationship between research and development costs and future revenues generally cannot be demonstrated Corporate headquarters' costs allocated to research and development would be classified as general and administrative expenses in the period incurred, because they are not clearly related to research and development activities On Clonal's statement of cash flows, the legal expenses incurred in defending the patent should be reported under investing activities in the period paid C11-3 (AICPA adapted solution) Research, as defined in FASB Statement No 2, is "planned search or critical investigation aimed at discovery of new knowledge with the hope that such knowledge will be useful in developing a new product or service or a new process or technique or in bringing about a significant improvement to an existing product or process." Development, as defined in FASB Statement No is "the translation of research findings or other knowledge into a plan or design for a new product or process or for a significant improvement to an existing product or process whether intended for sale or use." The current accounting and reporting practices for R&D costs were promulgated by the FASB in order to reduce the number of alternatives that previously existed and to provide useful financial information about R&D costs The FASB considered four alternative methods of accounting: (a) charge all costs to expense when incurred; (b) capitalize all costs when incurred; (c) selective capitalization; and (d) accumulate all costs in a special category until the existence of future benefits can be determined The FASB concluded that all R&D costs should be expensed as incurred (FASB Statement No does not apply to activities that are unique to enterprises in the extractive industries, and accounting for the costs of R&D activities conducted for others under a contractual arrangement is a part of accounting for contracts in general and is beyond the scope of that statement.) 11-9 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com C11-3 (continued) (continued) In reaching this decision, the FASB considered the three pervasive principles of expense recognition: (a) associating cause and effect; (b) systematic and rational allocation; and (c) immediate recognition The FASB found little or no evidence of a direct causal relationship between current R&D expenditures and subsequent future benefits The high degree of uncertainty surrounding future benefits, if any, of individual R&D projects makes it doubtful that there is any useful purpose to be served by capitalizing the costs and allocating them over future periods In view of the above, the FASB concluded that the first two principles of expense recognition not apply, but rather that the "immediate recognition" principle of expense recognition should apply The high degree of uncertainty about whether R&D expenditures will provide any future benefits, the lack of objectivity in setting criteria, and the lack of usefulness of the resulting information led the FASB to reject the alternatives of capitalization, selective capitalization, and accumulation of costs in a special category In accordance with FASB Statement No 2, the following costs attributable only to research and development are expensed as incurred: Design and engineering studies Prototype manufacturing costs Administrative costs related solely to research and development The cost of equipment produced solely for development of the product ($200,000) The remaining $300,000 of equipment is capitalized and shown on the statement of financial position at cost The depreciation expense resulting from the current year is a part of research and development expense for the year The market research direct costs and related administrative expenses are not R&D costs These costs are treated as period costs and are shown as expense items in the current earnings statement C11-4 (AICPA adapted solution) In a purchase transaction, assets are recorded at their acquisition price, which becomes the cost basis to the acquiring corporation The book values of the assets for Felzar Company are irrelevant When a price is paid for a group of assets, the total price must be allocated to the individual assets Because we know neither the total fair value of the tangible and other intangible assets acquired from Felzar Company nor the price to be paid by the Rothman Corporation, we cannot determine whether Rothman Corporation has any goodwill to record The total price to be paid by the Rothman Corporation is indefinite but it may be estimated by discounting the expected receipts (1% of net sales) at the end of each of the next years and adding the initial $450,000 cash payment If the estimated purchase price exceeds the sum of the estimated fair values of the tangible and other assets purchased, then the excess may be recorded as goodwill 11-10 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-11 (continued) Amortization Expense: Patent Accumulated Amortization: Patent d$42,000 7,000d 7,000 years = $7,000 Amortization Expense: Tradename Accumulated Amortization: Tradename 16,000e 16,000 eSince the $90,000 fair value of the tradename is higher than its original cost, the carrying value of the tradename is not increased Therefore, the amortization expense is $16,000 ($80,000 5) P11-12 The balance sheet accounts need to be restated for fair values: Assets Cash Accounts receivable (net) Marketable securities (short-term) Inventory Land Plant and equipment ($150,000 x 1.10) Trademark Total Assets $ 30,000 70,000 60,000 140,000 120,000 165,000 70,000 $655,000 Liabilities Current Bonds payable Pension liability Total Liabilities $ 20,000 130,000 90,000 $240,000 The identifiable net assets = $655,000 - $240,000 = $415,000 Therefore, if Korbel is willing to pay $500,000 for identifiable net assets of $415,000, goodwill is valued at $85,000 11-38 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-12 (continued) Cash Accounts Receivable (net) Marketable Securities (short-term) Inventory Property, Plant, and Equipment (net) Trademark Goodwill Current Liabilities Bonds Payable Pension Liability Cash 30,000 70,000 60,000 140,000 285,000 70,000 85,000 Implied goodwill Purchase price Value of identifiable net assets Negative goodwill 20,000 130,000 90,000 500,000 $400,000 (415,000) $( 15,000) Negative goodwill proportionately reduces noncurrent assets: Property, plant, and equipment Trademark Total Value Percent $285,000 70,000 $355,000 80 20 100% Property, plant, and equipment is reduced by 80% x $15,000 $285,000 - $12,000 Trademark is reduced by 20% x $15,000 $70,000 - $ 3,000 Journal entry to record purchase: Cash Accounts Receivable (net) Marketable Securities (short-term) Inventory Property, Plant, and Equipment (net) Trademark Current Liabilities Bonds Payable Pension Liability Cash 11-39 = $ 12,000 = $273,000 = $ 3,000 = $ 67,000 30,000 70,000 60,000 140,000 273,000 67,000 20,000 130,000 90,000 400,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-13 (AICPA adapted solution) MUNN, INC Schedule of Expenses Relating to Intangible Assets For the Year Ended December 31, 2004 Amortization of intangibles Patent Non-competition agreement Total $ 28,0001 40,0002 $ 68,000 Consulting fee to Cody Corporation $ 50,000 MUNN, INC Other Noncurrent Assets Section of Balance Sheet December 31, 2004 Patent, net of accumulated amortization of $52,000 Trademark Non-competition agreement, net of accumulated amortization of $40,000 Total intangible assets $140,0003 600,0004 160,0005 $885,000 Explanations of Amounts: 1Amortization of patent Patent balance, 12/31/03 ($192,000 - $24,000) Life of patent (6 remaining years from 1/01/04) Amortization for 2004 of non-competition agreement Cost of non-competition agreement, 1/2/04 ($800,000 x 1/4) Life of agreement (5 years) Amortization for 2004 $168,000 $ 28,000 2Amortization 3Patent, net of accumulated amortization Cost of patent, 1/1/02 Deduct accumulated amortization, 12/31/03 Patent balance, 12/31/03 Deduct amortization for 2004 Balance, 12/31/04 11-40 $200,000 $ 40,000 $192,000 (24,000) $168,000 (28,000)1 $140,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-13 (continued) (continued) 4Trademark Cost of trademark, 1/2/04 ($800,000 x 3/4) $600,000 Since the trademark has an indefinite life, it is not amortized An adjusting entry is not needed since the trademark is not impaired 5Non-competition agreement, net of accumulated amortization Cost of non-competition agreement, 1/2/04 Deduct amortization for 2004 Balance, 12/31/04 $200,0002 (40,000)2 $160,000 P11-14 (AICPA adapted solution) BARB COMPANY Intangibles Section of Balance Sheet December 31, 2004 Patent from Lou Company, net of accumulated amortization of $420,000 (Schedule 1) Franchise from Rink Company, net of accumulated amortization of $50,000 (Schedule 2) Intangibles $1,080,000 450,000 $1,530,000 Schedule 1: Computation of Patent from Lou Company Cost of patent at date of purchase Amortization of patent for 2003 ($1,500,000 10 years) $1,500,000 (150,000) $1,350,000 Amortization of patent for 2004 ($1,350,000 years) Patent balance (270,000) $1,080,000 Schedule 2: Computation of Franchise from Rink Company Cost of franchise at date of purchase Amortization of franchise for 2004 ($500,000 Franchise balance 11-41 10) $ 500,000 (50,000) $ 450,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-14 (continued) BARB COMPANY Income Statement Effect For the Year Ended December 31, 2004 Patent from Lou Company: Amortization of patent for 2004 ($1,350,000 years) Franchise from Rink Company: Amortization of franchise for 2004 ($500,000 10) Payment to Rink ($2,000,000 x 5%) Research and development costs Total charged against income $ 270,000 $ 50,000 100,000 150,000 320,000 $ 740,000 P11-15 (AICPA adapted solution) Adjusting entries (shown on worksheet): (1) Machinery Patents To transfer cost of improving machinery to the fixed asset account 17,000 (2) Cost of Goods Sold Accumulated Amortization: Patents To record 2004 patent amortization (1/20 x $68,000) 3,400 (3) Licensing Agreement No Unearned Revenue To classify revenue received in advance on licensing agreement as unearned revenue 1,000 (4) Prior Period Adjustment - Licensing Agreement No Licensing Agreement No To write off the permanent 60% reduction in the expected revenue-producing value of licensing agreement no caused by the December 2003 explosion (60% x $50,000) (5) Cost of Goods Sold Accumulated Amortization: Licensing Agreements To record 2004 amortization of licensing agreement no ($50,000 10) 11-42 30,000 17,000 3,400 1,000 30,000 5,000 5,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-15 (continued) (6) (7) Prepaid Expenses Selling and General Expenses Start-up Expenses Goodwill To transfer items improperly charged to Goodwill Equipment Accounts Receivable Leasehold Improvements To charge the Equipment account with movable equipment and to record a receivable from the landlord for the real estate taxes erroneously paid by Lynch (8) Start-up Expenses Organization Costs To expense organization costs (9) Cost of Goods Sold Prior Period Adjustment - Amortization of Leasehold Improvements Accumulated Amortization: Leasehold Improvements To record 2003 and 2004 amortization of leasehold improvements based on 10-year life of lease (2 x 10% x $15,000) 6,000 2,000 16,000 8,500 2,500 29,000 11-43 24,000 11,000 29,000 1,500 1,500 3,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 11-44 Cash Accounts receivable Allowance for doubtful accounts Inventories Machinery Equipment Accumulated depreciation Patents Leasehold improvements Prepaid expenses Organization costs Goodwill Licensing agreement no Licensing agreement no Accounts payable Unearned revenue Capital stock Retained earnings, January 1, 2004 Sales Cost of goods sold Selling and general expenses Start-up expenses Interest expense Extraordinary losses Accumulated amortization: patents Accumulated amortization: leasehold Improvements Accumulated amortization: licensing agreements Prior period adjustment–licensing agreement no Prior period adjustment–amortization of leasehold improvements Net income for 2004 Totals $1,239,000 $1,239,000 (4) 30,000 (9) 1,500 $123,400 Income Statement Debit Credit Balance Sheet Debit Credit $ 61,000 95,000 (500) 38,500 92,000 37,500 (10,000) 68,000 15,000 16,500 20,000 50,000 $147,500 13,500 300,000 (27,000) $768,500 $463,900 175,000 45,000 3,500 12,000 (3,400) (9) 3,000 (3,000) (5) 5,000 (5,000) (30,000)* $123,400 69,100 $768,500 $768,500 $471,600 (1,500)* 69,100 $471,600 *Generally, adjustments in the current period that could have been determined by management in a prior period should enter into the determination of net income in the current period However, because the 2004 financial statements were not prepared in conformity with generally accepted accounting principles, these retroactive adjustments are considered to be errors and treated as prior period adjustments and, therefore, should be applied against beginning retained earnings P11015 (continued) General Ledger Accounts LEE MANUFACTURING CORPORATION Financial Statement Worksheet Year Ended December 31, 2004 Trial Balance Adjustments Debit Credit Debit Credit $ 61,000 92,500 (7) $ 2,500 $ 500 38,500 75,000 (1) 17,000 29,000 (7) 8,500 10,000 85,000 (1) $ 17,000 26,000 (7) 11,000 10,500 (6) 6,000 29,000 (8) 29,000 24,000 (6) 24,000 50,000 (4) 30,000 49,000 (3) 1,000 147,500 12,500 (3) 1,000 300,000 27,000 768,500 454,000 (2) 3,400 (5) 5,000 (9) 1,500 173,000 (6) 2,000 (6) 16,000 (8) 29,000 3,500 12,000 (2) 3,400 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-16 (AICPA adapted solution) TULLY CORPORATION Intangibles Section of Balance Sheet December 31, 2004 Franchise from Rapid Copy Service, Inc., net of accumulated amortization of $6,870 (Schedule 1) Patent, net of accumulated amortization of $2,050 (Schedule 2) Trademark, net of accumulated amortization* of $7,294 (Schedule 3) Total intangibles $ 61,830 14,350 42,706 $118,886 *The trademark is amortized because it has a limited useful life Schedule 1: Computation of Franchise from Rapid Copy Service, Inc Cost of franchise at January 1, 2004 Down payment Present value of installments Initial amount capitalized Amortization of franchise for 2004 ($68,700 Franchise balance, December 31, 2004 Schedule 2: 10 years) $ 25,000 43,700 $ 68,700 (6,870) $ 61,830 Computation of Patent Capitalized cost of patent at January 2, 2004 legal fees and other costs associated with registration Amortization of patent for 2004 ($16,400 years) Patent balance, December 31, 2004 11-45 $ 16,400 (2,050) $ 14,350 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-16 (continued) (continued) Schedule 3: Computation of Trademark Cost of trademark at July 1, 2001 Amortization through December 31, 2003 ($40,000 20 years = $2,000 x 2½ years) Amortization for period January - June 30, 2004 ($2,000 x ½) Cost of successful litigation in defense of trademark, July 1, 2004 Balance, July 1, 2004 Amortization for period July - December 31, 2004 ($50,000 - $6,000 = $44,000 trademark balance 17 year remaining life = $2,588 x ½) Balance, December 31, 2004 Deduct accumulated amortization Trademark balance, December 31, 2004 Cost $40,000 Accumulated Amortization $5,000 1,000 10,000 $50,000 $6,000 $50,000 1,294 $7,294 (7,294) $42,706 TULLY CORPORATION Expenses Resulting from Intangibles Transactions For the Year Ended December 31, 2004 Franchise from Rapid Copy Service, Inc Amortization of franchise (Schedule 1) Franchise fee on revenues from operations ($900,000 x 5%) Imputed interest expense on unpaid balance of initial franchise fee ($43,700 x 14%) Amortization of patent (Schedule 2) Amortization of trademark ($1,000 + $1,294, from Schedule 3) Total expenses 11-46 $ 6,870 45,000 6,118 $57,988 2,050 2,294 $62,332 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-17 (AICPA adapted solution) (1) Computer Software Costs Selling and Administrative Expenses To capitalize computer software costs after technological feasibility has been established (2) Allowance for Doubtful Accounts Selling and Administrative Expenses (bad debts) To reduce allowance account to balance determined by aging of receivables ($59,000 - $36,000) (3) Inventories Cost of Sales To adjust for work-in-process inventory held by outside processor (4) Prepaid Insurance Selling and Administrative Expenses (insurance) To adjust for nonrecognition of prepaid expense (5) Selling and Administrative Expenses (pension) Accounts Payable and Accrued Expenses To accrue pension expense ($45,000 x 6/12) (6) Property, Plant, and Equipment Depreciation Expense Cost of Sales (repairs & maintenance) Accumulated Depreciation To adjust for charge to repairs and maintenance of machine purchased on 6/1/04, and to record depreciation to 11/30/04 ($24,000 x 20% x 6/12) (7) Research and Development Expense Research and Development Costs To write off research and development costs in accordance with GAAP 11-47 5,000 23,000 12,000 3,000 22,500 24,000 2,400 120,000 5,000 23,000 12,000 3,000 22,500 24,000 2,400 120,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-17 (continued) (continued) (8) Estimated Loss from Lawsuit Estimated Liability from Lawsuit To record probable damages payable re: lawsuit for patent infringement Income Taxes Payable Income Tax Expense To adjust provision for year ended 11/30/04 (Schedule 1) 50,000 (9) 50,000 41,370 41,370 Schedule Adjustment to Income Tax Expense Year Ended November 30, 2004 Unadjusted income before income taxes Add: Adjustments increasing income Recognition of computer software (asset) Reduction in allowance for doubtful accounts Work-in-process inventory at outside processor Recognition of prepaid insurance Reversal of 6/1/04 charge to repairs and maintenance Deduct: Adjustments decreasing income Pension expense Depreciation on machine purchased 6/1/04 Research and development expense Estimated loss from lawsuit Adjusted income before income taxes Effective income tax rate Adjusted income tax expense Income tax expense per books Adjustment to reduce income tax expense 11-48 $560,000 $ 5,000 23,000 12,000 3,000 24,000 $ 22,500 2,400 120,000 50,000 67,000 $627,000 (194,900) $432,100 x 30% $129,630 (168,000) $ (38,370) To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-17 (continued) BRYANT CORPORATION Balance Sheet November 30, 2004 Assets Current assets Cash Accounts receivable Less: Allowance for doubtful accounts Inventories Prepaid insurance Total current assets Property, plant, and equipment Less: Accumulated depreciation Computer software Total Assets $ 180,000 480,000 (36,000) 442,000 18,000 $1,084,000 450,000 (42,400) 5,000 $1,496,600 Liabilities and Stockholders' Equity Current liabilities Accounts payable and accrued expenses Estimated liability from lawsuit Income taxes payable Total current liabilities Stockholders' equity Common stock Retained earnings Total stockholders' equity Total Liabilities and Stockholders' Equity 11-49 $ 614,500 50,000 129,630 $ 794,130 $ 400,000 302,470 $ 702,470 $1,496,600 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-17 (continued) (continued) BRYANT CORPORATION Statement of Income For Year Ended November 30, 2004 Net sales Operating expenses: Cost of sales Selling and administrative Depreciation Research and development Total expenses Operating income Other items: Estimated loss from lawsuit Income before income taxes Income tax expense Net Income $2,950,000 $1,634,000 641,500 42,400 150,000 $2,467,900 $ 482,100 (50,000) $ 432,100 (129,630) $ 302,470 P11-18 Average of annual earnings: 2000 $100,000 2001 120,000 2002 144,000 (excluding extraordinary loss) 2003 172,800 (excluding extraordinary loss) 2004 207,360 (excluding extraordinary gain) Total $744,160 years Average annual earnings of last years $148,832 10% return on $1.4 million net assets = (140,000) Estimated excess annual earnings = $ 8,832 Implied goodwill = PV of $8,832 capitalized at 14% for years = $8,832 x 3.433081* = $30,321 *Factor from Table of Appendix D 11-50 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-18 (continued) Over the past years, income has increased by 20% each year If this continues through the next years, net income will be as follows: 2005 $ 248,832 2006 298,598 2007 358,318 2008 429,982 2009 515,978 Total $1,851,708 years Estimated average annual earnings $ 370,342 Normal return (10% x $1.4 million) Estimated excess annual earnings Goodwill = (140,000) = $ 230,342 = PV of $230,342 capitalized at 14% for years = $230,342 x 3.433081* = $790,783 *Factor from Table of Appendix D P11-19 Cost Market value of net assets: Cash Accounts receivable (net) Inventory Property, plant, and equipment Patent Current liabilities Bonds payable Implied goodwill $1,350,000 $ 50,000 65,000 180,000 730,000 120,000 (60,000) (200,000) 11-51 (885,000) $ 465,000 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com P11-19 (continued) Average of annual earnings: Average annual earnings of last years 10% return on $885,000 net assets = Estimated excess annual earnings = Implied goodwill 2000 $150,000 200 162,000 2002 174,960 (excluding extraordinary gain) 2003 188,957 2004 204,073 (excluding extraordinary loss) $879,990 years $175,998 ( 88,500) $ 87,498 = $87,498 x P.V of annuity for years at 14% = $87,498 x 4.288305* = $375,218 *Factor from Table of Appendix D Over the past years, income has increased by 8% each year If this continues through the next years, net income will be as follows (amounts are rounded): 2005 $ 220,399 2006 238,031 2007 257,073 2008 277,639 2009 299,850 2010 323,838 2011 349,745 Total $1,966,575 years Estimated average annual earnings $ 280,939 10% return on $885,000 net assets = Estimated excess annual earnings = Implied goodwill (88,500) $ 192,439 = $192,439 x P.V of annuity for years at 14% = $192,439 x 4.288305* = $825,237 *Factor from Table of Appendix D 11-52 ... acquired by themselves and cannot be separated from the other assets acquired 11-3 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Q11-3 When accounting. .. slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 11-18 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com SOLUTIONS TO... slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com 11-26 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com SOLUTIONS TO