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388 ♦ Chapter 11
Match each term with the correct definition.
a.
Deferred taxes
b.
Equity method
c.
Capital expenditures
d.
Operating expenditures
e.
Prepaid taxes
f.
Depletion
g.
Depreciation
h.
Straight-line method
23. Systematic allocation of the cost of natural resources to the periods that benefit from their use
24. Outlays made to extend the life of existing plant assets
25. The process of allocating the cost of plant assets to expense over the periods that benefit from their
use
26. The difference between income tax expense reported on the company’s books and income taxes
payable
27. Method that adjusts the investment account of the investor in proportion to changes in the book
value of the investee's stockholders' equity
28. Outlays to maintain plant assets that do not extend their life or enhance their value
Investing Activities ♦ 389
PROBLEM
1. Zeus Company purchased equipment on January 1, 2007, at a cost of $180,000. The equipment is
expected to have a useful life of four years or 10,000 units and have a residual value of $18,000.
During 2007, the equipment produced 4,000 units.
Required:
Determine the depreciation expense for 2007 under the (a) straight-line, (b) double declining
balance, and (c) units-of-production methods.
2. Rockledge Corporation purchased machinery on January 1, 2007 at a cost of $160,000. The
machinery has an estimated useful life of 10 years and $30,000 residual value. Rockledge's
income, before depreciation and income taxes, for 2007 was $300,000. If Stone has a 40% income
tax rate, determine the amount of income tax expense and net income it will report, using the
a.
straight-line method
b.
double declining balance method
390 ♦ Chapter 11
3. Pegasus Company purchased equipment on January 1, 2007, at a cost of $128,000. The equipment
is expected to have a useful life of five years or 100,000 units and have a residual value of $8,000.
During 2007, the equipment produced 25,000 units.
Required:
Determine the depreciation expense for 2007 under the a) straight-line, b) double declining
balance, and c) units-of-production methods.
4. Carver Company purchased machinery on January 1, 2007 at a cost of $200,000. The machinery
has an estimated useful life of five years and a $20,000 residual value. Carver uses the straight-line
depreciation method. On December 31, 2008 Carver sold the machinery for $80,000. Prepare the
December 31, 2008 transaction in the accounting system.
Account ASSETS = LIABILITIES + OWNER’S EQUITY
Investing Activities ♦ 391
5. Grinder Enterprises purchased machinery on January 1, 2007, at a cost of $270,000. The
machinery has an estimated useful life of eight years and $6,000 residual value. Grinder’s income,
excluding depreciation and income taxes, for 2007 was $750,000. If Grinder has a 40% income tax
rate, determine the amount of income tax expense and net income it will report, using the:
Required:
a.
straight-line method
b.
double declining balance method
6. On January 1, 2007, Brown Company acquired machinery at a cost of $132,000 including sales
tax and installation charges. Management estimated the machinery would have a useful life of 6
years and a residual value of about $12,000. The company operates on a calendar year basis and
eventually sold this machinery for $8,000 scrap on December 31, 2009.
Required:
Determine the following amounts:
a.
What depreciation method did this company use if the book value of the machinery
on the December 31, 2007 balance sheet was $112,000? Carefully and neatly prepare
a schedule to prove your conclusion.
b.
If the company uses the straight-line method, what will be the amount of
depreciation expense for 2008
c.
If the company uses the straight-line method, what amount of gain or loss will the
company experience at disposal on December 31, 2009? Carefully and neatly prepare
a schedule to prove your answer.
392 ♦ Chapter 11
7. The Armageddon Company purchased machinery costing $384,000, having an expected useful life
of 4 years and an estimated residual value of $48,000.
Required:
a.
What depreciation method is being used if the first year's depreciation expense is
$192,000?
b.
What depreciation method is being used if the second year's depreciation expense is
$84,000?
Investing Activities ♦ 393
8. The Golden Broom Cleaning Service acquired new equipment:
Cost
$118,400
Residual
12,800
Estimated useful life
8 years or 40,000 units
Required:
a.
Determine the book value of the asset at the end of the THIRD year if the straight-
line depreciation method is used.
b.
Determine the depreciation expense for the SECOND year assuming double-
declining balance method is used.
c.
What would be the depreciation expense for the FIRST year if the units-of-
production method is used and 6,000 units were produced?
9. Back on January 1, 2007 Crown Industries purchased production equipment for $150,000. The
equipment had an expected life of five years and expected residual value of zero. The straight-line
depreciation method is used by this company. All appropriate year-end depreciation has been
recorded through December 31, 2010. Today, January 1, 2011, this machinery has been sold for
$28,000 cash.
Required:
Enter this transaction into the accounting system using spreadsheet format.
Account ASSETS = LIABILITIES + OWNER’S EQUITY
394 ♦ Chapter 11
10. In 2007, Bauxite Mining Company purchased a bauxite mine for $9,000,000. At the time of
purchase, Bauxite estimated that the mine contained 500,000 tons of bauxite. Bauxite mined and
sold 40,000 tons in 2007 and 85,000 tons in 2008.
Required:
a.
What is the depletion rate per ton?
b.
What amount of depletion should be reported 2007 and 2008?
11. In 2007, Rockpit Mining Company purchased a bauxite mine for $12,000,000. At the time of
purchase, Rockpit estimated that the mine contained 800,000 tons of bauxite. Rockpit mined and
sold 110,000 tons in 2004 and 160,000 tons in 2008.
Required:
a.
What is the depletion rate per ton?
b.
What amount of depletion should be reported 2007 and 2008?
12. Amalgamated Mining Company originally acquired a copper mine at a cost of $900,000. It was
thought to contain 1,600,000 tons of recoverable ore and that the property would be worth
$100,000 when the ore was gone.
Required:
a.
What is the depletion rate per ton?
b.
Assume that recoveries of ore were made as follows from the mine:
Year 1: 500,000 tons
Year 2: 125,000 tons
Year 3: 400,000 tons
Year 4: 525,000 tons
Determine the amount of depletion cost for each year.
Investing Activities ♦ 395
13. Roughdig Corporation paid $9,250,000 for a coal mine estimated to contain three million tons of
coal. Residual value of the property after removal of all the coal was estimated to be $250,000.
What is the depletion cost per ton of coal?
14. On October 1, 2007, Saphire Mining Company acquired, at a cost of $14,000,000, the mineral
rights to a piece of property it already owned. Management estimated that the property contained
approximately 11,200,000 tons of ore. By December 31, 2007, a total of 350,000 tons of ore had
been removed from the property and processed.
Required:
Describe how the two events below should be accounted for.
a.
The acquisition of the mineral rights.
b.
Removal of 350,000 tons of ore.
396 ♦ Chapter 11
15. Yellow Wing, Inc. paid $30,000,000 to purchase Arthur, Ltd. At the date of purchase, Arthur, Ltd.
had assets with a current market value of $50,000,000 and liabilities with a current market value of
$26,000,000.
Required:
a.
Determine the amount of goodwill Yellow Wing, Inc., should report as a result of the
purchase.
b.
How should Yellow Wing, Inc., report the goodwill in its financial statements?
16. Racing Engines, Inc. purchased a patent from Johnson Motors Corporation for $18,000,000 on
January 1, 2007. The patent is being amortized over its remaining legal life, twelve years.
Calculate the amount of amortization expense Racing Engines, Inc. should report in 2007.
Investing Activities ♦ 397
17. Mozart Company purchased machinery on January 1, 2007, at a cost of $120,000. The machinery
has an estimated useful life of eight years and a $8,000 residual value. Mozart uses the straight-
line depreciation method. On December 31, 2009, Mozart sold the machinery for $90,000. Enter
the December 31, 2009, transaction in the accounting system.
Account ASSETS = LIABILITIES + OWNER’S EQUITY
18. At December 31, 2007, Rodriguez Ventures owned small amounts of the common stock of other
firms as follows:
Company
Number of
shares owned
Purchase Price
per Share
Market value
12/31/04
Taliesin Corporation
10,000
$126
$138
Wolf Company
12,000
87
108
Tiger, Inc.
19,000
81
102
Stoppard Company
15,000
102
81
Rodriguez expects to sell its investments in Taliesin and Wolf Co. during 2008. They are
classified as trading. It does not expect to sell its investments in Tiger, Inc. and Stoppard during
the foreseeable future. They are classified as available-for-sale.
Required:
a.
Determine the amounts that should be reported on Rodriguez 's December 31, 2007
balance sheet as short-term investments. Show computations in good order.
b.
Determine the amounts that should be reported on Rodriguez 's December 31, 2007
balance sheet as long-term investments. Show computations in good order.
c.
Calculate the holding gain or loss and state where it would be reported. Show
computations in good order.
398 ♦ Chapter 11
19. After many months of negotiating, Clanad agreed to purchase Marisol for $3,600,000 in cash. The
current market value of net assets of Marisol at the date of purchase was $2,400,000. What was the
amount of goodwill Clanad should report as a result of the transaction?
20. On June 30, 2007, semiannual secured bonds having a face value of $200,000, a life of 10 years
and a coupon rate of 7% were purchased to yield 6%.
Assume that $214,878.28 was paid for the bonds.
Required:
a.
What amount of interest revenue should be recorded at the first interest receipt date?
b.
What amount of premium (or discount) will be amortized at the first interest receipt
date?
c.
What is the amount of cash flow at the first interest receipt date?
Investing Activities ♦ 399
21. Jameson Company owns the following investments. For each case, indicate the accounting method
you would recommend Jameson use if GAAP is to be followed. Also indicate why you expect that
method would be used.
a.
40% of the outstanding preferred shares of Ramirez Corporation. The shares are not
readily marketable but management believes that Ramirez is a sound long-term
investment that will regularly pay dividends.
b.
Long-term holding of 100 shares of Wendy’s Corporation common stock.
c.
1,500,000 (of the 5,000,00 outstanding) common shares of Elian Electronics. The
shares are readily marketable but management intends to hold them long-term.
d.
300,000 (of the 2 million outstanding) common shares of Penn, Inc. The other shares
are widely distributed among many other owners with none holding more than 1,000
shares. The shares are readily marketable but management plans to hold them
indefinitely.
400 ♦ Chapter 11
22. On January 1, 2007, Paris Corporation paid $8,000,000 to purchase Cardone Company. The
current market value of Cardone 's net assets was $7,500,000. The book value of the net assets was
$7,800,000.
Required:
a.
What amount of goodwill should Paris report as a result of this purchase?
b.
What amount of amortization should Paris record for 2004?
23. On February 3, 2007, the Bank of Montana purchased 3,000 shares of Southern Corporation
common stock at $28 each. The bank classified these shares as trading securities. On December
31, 2007 the stock closed on a major stock exchange at $48 per share. The stock was sold on April
22, 2008 at a price of $32 each.
Required:
Show the how the following would be entered into the accounting system using the spreadsheet
format:
a. the acquisition of the stock
b. the necessary entry on December 31, 2007
c. the entry on April 22, 2008
Investing Activities ♦ 401
24. At December 31, 2007, Myers Company owned small amounts of the common stock of other
firms as follows:
Company
Number of
shares owned
Purchase Price
per Share
Market value
12/31/07
Bacon Corporation
12,000
$104
$90
Chaucer Company
9,000
76
86
Troilus, Inc.
14,000
34
54
Keats Company
20,000
92
80
Myers expects to sell its investments in Bacon and Chaucer during 2008. They are classified as
trading. It does not expect to sell its investments in Troilus and Keats during the foreseeable
future. They are classified as available-for-sale.
Required:
a.
Determine the amounts that should be reported on Myers' December 31, 2007
balance sheet as short-term investments. Show computations in good order.
b.
Determine the amounts that should be reported on Myers’ December 31, 2007,
balance sheet as long-term investments. Show computations in good order.
c.
Calculate the holding gain or loss and state where it would be reported. Show
computations in good order.
402 ♦ Chapter 11
25. Prepare the investing section of a statement of cash flows based upon the information given
below. (Assume all the events involve cash.)
Purchase of land
$ (300,000)
Issuance of stock
2,000,000
Sale of building
550,000
Purchase of investments
(327,000)
Payment of dividends
(1,000,000)
Purchase of patent
(652,000)
1. Distinguish between a capital expenditure and an operating expenditure.
2. Two four-year-old companies are identical in all respects except that Company A has used
straight-line depreciation exclusively since inception while Company B has used double-declining
balance depreciation exclusively since inception. The depreciable assets have estimated lives of
approximately 20 years. Describe how this difference in accounting policy has affected the
companies' financial statements over that period of time.
Investing Activities ♦ 403
3. List and explain the two criteria that must be met before an investment in the securities of another
firm (e.g. stocks or bonds) may be reported as a current asset on the balance sheet. Explain the
reasoning behind these two criteria and why, if not met, it is appropriate to account for this type of
investment as a long-term asset.
404 ♦ Chapter 11
4. A friend has noticed that when accounting for bonds bought at a price other than face value, the
annual interest revenue is different every year. Further, she has noticed that when the premium is
being amortized, the amount of interest revenue decreases each year, but that the reverse is true
when amortizing the discount. Explain to your friend why this occurs.
5. Information about depreciation is disclosed on three different financial statements. For each
statement, explain what knowledge is transmitted to the reader by the depreciation information
contained on that statement.
Investing Activities ♦ 405
6. Describe how an investing activity can have an effect on the balance sheet, income statement, and
a statement of cash flows.
7. Define and discuss intangible assets. In your discussion, include the amortization period of such
assets and give at least three examples.
8. Define goodwill and explain how it is calculated for financial reporting purposes.
406 ♦ Chapter 11
9. You hear the following statement: "The terms depreciation, amortization and depletion can be
used interchangeably." Discuss your understanding of these terms and whether the statement is
true.
10. You are inspecting the financial statements of a little-known corporation and see the account
Unrealized Holding Gain listed in the stockholders' equity section of the balance sheet. Its balance
is $36,400. What does this tell you about the company and its activities to date?
