Exam 11: Accounting Principles

The following are independent situations observed by General Company's senior accountant at December 31, 2014, the company's year end. General Company has not adopted the revaluation model for accounting for long-lived assets. 1. General purchased land in February at a cost of $60,000 for the purpose of expanding the size of their parking lot, although this project has not yet been started at year end. Due to increases in real estate values, this land has a value of $100,000 by year end. An entry to record this increase in value has been recorded, crediting "Gain on Land". 2. One of the items making up General's total current assets of $354,000 is an amount of $1,400 for Supplies. The Company owner asks one of the accounting staff whether she thinks this balance is correct. The staff person takes two days of work time to count the actual supplies on hand and another day to research the exact cost of the items, and subsequently adjusts the balance of Supplies to its exact balance of $1,425. As a result of this task, the month-end financial statements are submitted to the company's lender two days after the reporting deadline. 3. A $96,300 payment for a 12 month insurance policy effective March 1 had been debited to the Insurance Expense Account. 4. Included in Accrued Interest Payable is interest on a $200,000, 3% note payable. Interest has been paid to the end of December 2, 2014. Accrued interest payable was calculated and recorded as $500 by applying the following formula: $200,000 x 3% x 1÷12. However the accountant was concerned because part of December's interest has already been paid and the formula included a full month's accrual. He therefore reduces the accrued interest payable by $33 ($200,000 x 3% x 2÷365). 5. On January 15, 2015, before the financial statement preparation for December 31, 2014 had been completed, a fire destroyed General's warehouse, which had a carrying value of $1,500,000, and inventory with a cost of $900,000. The lost assets are insured, but will result in a 6 month interruption in business while being reconstructed. No mention of this occurrence is found in the financial statements. 6. The company completed its year end inventory count and the controller noticed that obsolete inventory had been included in the physical count and that it was valued at its original cost less an obsolescent factor of 10%. When the controller asked how long the inventory had been on hand, he was told that it was 4 years old; most of their inventory is 6 months old. Instructions For each of the events, indicate the accounting assumption, concept, or constraint that has been violated and provide your reason. Prepare the correcting entry required, or if no entry is required, explain what other change, if any, should be made to ensure that General's financial statements comply with GAAP.

The conceptual framework ensures that existing standards and practises are clear and consistent.

The elements of financial statements are the key ratios which a company will use to manage its business.

In the year of a change in an accounting policy, the change and its impact must be disclosed in the notes to the financial statement.

The enhancing qualitative characteristics, such as comparability and timeliness must be applied first before the characteristic of relevance in order to provide the most usefulness to the decision makers.

It is an underlying assumption that financial statements are prepared as if the company is NOT a going concern.

The following are independent situations observed by Kola Industrial's senior accountant at December 31, 2014, the company's year end. 1. Kola has parts inventory for use in its construction department (not for resale). The inventory includes over 1,500 different items, with between 10 and 100 of each item in stock. The cost of the individual items ranges from $0.30 to $1.50. In the past, the inventory quantities have been estimated by weighing the parts bins. This year, the accountant had the individual items counted and priced to provide more precise information. The total estimated value of the items is $45,000, which is material in total. It took four staff a full day to count the inventory at a cost of $1,000 in labour costs, and it would have taken two staff a half day to complete the estimate by weighing at a cost of $250. After the count, an entry of $27 was needed to reduce the inventory balance to actual. The entry was debited to Construction Supplies Expenses. 2. Goods with a sales price of $55,000 were shipped to a customer FOB shipping point. The goods were picked up by the shipping company on December 31, and delivered to the customer on January 2. The customer's invoice was prepared and recorded in January. 3. Prepaid expenses include $12,000 in prepaid rent related to the long term lease of a branch office. When the lease was signed 4 years ago, Kola had to pay a $6,000 deposit which comprises the final month's rent. Rental rates have since doubled in that location, so an entry has been recorded to reflect this value as follows: "Debit Prepaid Rent $6,000; Credit Rent Expense $6,000". The junior accountant's argument for making this entry is that the company has benefited from the long term lease and the financial statements should reflect this benefit. 4. One of the owners of Kola purchased a vacation property for $190,000 with company funds. The transaction was recorded as a debit to Property, Plant, and Equipment, and a credit to Cash. Instructions For each of the events, indicate the accounting assumption, concept, constraint, or recognition criteria that have been violated and provide your reason. Prepare the correcting entry required, or if no entry is required, explain what other change, if any, should be made to ensure that Kola's financial statements comply with GAAP.

Which of the following is NOT a qualitative characteristic associated with faithful representation?

An item is material when it is unlikely to influence the decision of a reasonably careful investor or creditor.

Capital providers are the main users of financial reporting.

Accounting information is neutral if it makes a difference in a decision.

Retailers who sell a product with a warranty period can recognize revenue when

Information is understandable when it is understood by users

When the percentage of completion method is used to recognize revenue, the amount of revenue recognized should NOT be based on the billings issued.

The information provided in the notes that accompany financial statements is required because of the

An error is considered to be a material error if the error in the accounting information could have an impact on an investor's or creditor's decision.

Comparability means that a company uses the same accounting principles and methods from year to year.

If goods are shipped FOB destination then the selling company can recognize revenue when the goods are shipped.

If accounting information has predictive value, it is useful in making predictions about

Claims on economic resources are defined as assets.