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Long term contract accounting practice problems

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1. An alternative available when the seller is exposed to continued risks of ownership through return of the product is

Recording the sale, and accounting for returns as they occur in future periods.
Not recording a sale until all return privileges have expired.
Recording the sale, but reducing sales by an estimate of future returns.
All of the above.

2. The percentage-of-completion method must be used when certain conditions exist. Which of the following is NOT one of those necessary conditions?

Estimates of progress toward completion, revenues, and costs are reasonably dependable.
The contractor can be expected to perform the contractual obligation
The buyer can be expected to satisfy some of the obligations under the contract.
The contract clearly specifies the enforceable rights of the parties, the consideration to be exchanged, and the manner and terms of settlement.

3. Melton Construction Co. began operations in 2007. Construction activity for 2007 is shown below. Melton uses the completed-contract method.

Billings Collections Estimated
Contract Through Through Costs to Costs to
Contract Price 12/31/07 12/31/07 12/31/07 Complete
1 $3,200,000 $3,150,000 $2,600,000 $2,150,000 $ -0-
2 3,600,000 1,500,000 1,000,000 820,000 1,880,000
3 3,300,000 1,900,000 1,800,000 2,250,000 1,200,000
Which of the following should be shown on the balance sheet at December 31, 2007 related to Contract 2?

Inventory, $680,000
Inventory, $820,000
Current liability, $680,000
Current liability, $1,500,000

2-1. Smiley Corporation purchased a machine on January 2, 2006, for $2,000,000. The machine has an estimated 5-year life with no salvage value. The straight-line method of depreciation is being used for financial statement purposes and the following MACRS amounts will be deducted for tax purposes:
2006 $400,000 2009 $230,000
2007 640,000 2010 230,000
2008 384,000 2011 116,000
Assuming an income tax rate of 30% for all years, the net deferred tax liability that should be reflected on Smiley's balance sheet at December 31, 2007, should be
Deferred Tax Liability
Current Noncurrent
a. $0 $72,000
b. $ 4,800 $67,200
c. $67,200 $ 4,800
d. $72,000 $ 0

3-1. The following information relates to Eckert, Inc.'s defined benefit pension plan at Dec 31, 2007:
Plan assets at fair value......................4,000,000
Projected benefit obligation.................4,700,000
Funded Status of pension plan............ (700,000)
Unrecognized net actuarial loss........... 400,000
Unrecognized prior service cost............ 200,000
Accrued pension liability on books........(100,000)
The following information relates to Eckert, Inc.'s defined benefit pension plan for the year 2008:
Service cost.....................................................220,000
Interest expense...............................................270,000
Actual return on plan assets..............................480,000 gain
Expected return on plan assets..........................320,000
Contributions to plan.........................................200,000
Benefits paid....................................................100,000
Amortization of unrecognized net actuarial loss... 30,000
Amortization of unrecognized prior service cost... 40,000
Required: Ignoring both any accumulated benefit obligation considerations and any FAS 158 considerations, answer the following questions.
a. What is the fair value of the plan assets at Dec 31, 2008? (Show buildup)
b. What is the projected benefit obligation at Dec 31, 2008? (Show buildup)
c. What is pension expense for 2008? (Show buildup)
d. Make the journal entry(s) on the books for 2008 related to pensions.
2. Market-related asset value is used to determine the corridor and to calculate the expected return on plan assets.
Expected Return
Corridor in Plan Assets
a. Yes Yes
b. Yes No
c. No Yes
d. No No


4-1. For a sales-type lease
The sales price includes the present value of the unguaranteed residual value.
The present value of the guaranteed residual value is deducted to determine the cost of goods sold.
The gross profit will be the same whether the residual value is guaranteed or unguaranteed.
None of the above.

2. In the earlier years of a lease, from the lessee's perspective, the use of the

Capital method will enable the lessee to report higher income, compared to the operating method.
Capital method will cause debt to increase, compared to the operating method.
Operating method will cause income to decrease, compared to the capital method.
Operating method will cause debt to increase, compared to the capital method.

3. Mayer Company leased equipment from Lennon Company on July 1, 2008, for an eight-year period expiring June 30, 2016. Equal annual payments under the lease are $300,000 and are due on July 1 of each year. The first payment was made on July 1, 2008.
The rate of interest contemplated by Mayer and Lennon is 8%. The cash selling price of the equipment is $1,861,875 and the cost of the equipment on Lennon's accounting records was $1,650,000.
Assuming that the lease is appropriately recorded as a sale for accounting purposes by Lennon, what is the amount of profit on the sale and the interest income that Lennon would record for the year ended December 31, 2008?
$0 and $0
$0 and $62,475
$211,875 and $62,475
$211,875 and $74,475

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Accounting Practice Questions

Choose the best answer for each of the following questions and enter the identifying letter in the space provided.

Neber Co., which began operations on January 1, 2007, appropriately uses the installment-sales method of accounting. The following information pertains to Neber's operations for the year 2007:
Installment sales $1,200,000
Regular sales 480,000
Cost of installment sales 720,000
Cost of regular sales 288,000
General and administrative expenses 96,000
Collections on installment sales 288,000
The deferred gross profit account in Neber's December 31, 2007 balance sheet should be
a. $115,200.
b. $192,000.
c. $364,800.
d. $480,000.

It is an objective of the statement of cash flows to
a. disclose changes during the period in all asset and all equity accounts.
b. disclose the change in working capital during the period.
c. provide information about the operating, investing, and financing activities of an entity during a period.
d. none of these.

.Which table would you use to determine how much you would need to have deposited three years ago at 10% compounded annually in order to have $1,000 today?
a. Future value of 1 or present value of 1
b. Future value of an annuity due of 1
c. Future value of an ordinary annuity of 1
d. Present value of an ordinary annuity of 1
. Ann Ruth wants to invest a certain sum of money at the end of each year for five years. The investment will earn 6% compounded annually. At the end of five years, she will need a total of $40,000 accumulated. How should she compute her required annual invest-ment?
a. $40,000 times the future value of a 5-year, 6% ordinary annuity of 1.
b. $40,000 divided by the future value of a 5-year, 6% ordinary annuity of 1.
c. $40,000 times the present value of a 5-year, 6% ordinary annuity of 1.
d. $40,000 divided by the present value of a 5-year, 6% ordinary annuity of 1.

Use the following information for questions 5 and 6.
Lange Co. provided the following information on selected transactions during 2008:
Purchase of land by issuing bonds $250,000
Proceeds from issuing bonds 500,000
Purchases of inventory 950,000
Purchases of treasury stock 150,000
Loans made to affiliated corporations 350,000
Dividends paid to preferred stockholders 100,000
Proceeds from issuing preferred stock 400,000
Proceeds from sale of equipment 50,000

5. The net cash provided (used) by investing activities during 2008 is
a. $50,000.
b. $(300,000).
c. $(550,000).
d. $(1,250,000).

__6_. The net cash provided by financing activities during 2008 is
a. $550,000.
b. $650,000.
c. $800,000.
d. $900,000.

During 2008, Hogan Company earned net income of $384,000 which included deprecia-tion expense of $78,000. In addition, the company experienced the following changes in the account balances listed below:
Increases Decreases
Accounts payable $45,000 Accounts receivable $12,000
Inventory 36,000 Accrued liabilities 24,000
Prepaid insurance 33,000
Based upon this information what amount will be shown for net cash provided by operating activities for 2008?
a. $492,000
b. $465,000
c. $285,000
d. $267,000

. Jim Yount, M.D., keeps his accounting records on the cash basis. During 2007, Dr. Yount collected $360,000 from his patients. At December 31, 2006, Dr. Yount had accounts receivable of $50,000. At December 31, 2007, Dr. Yount had accounts receivable of $70,000 and unearned revenue of $10,000. On the accrual basis, how much was Dr. Yount's patient service revenue for 2007?
a. $310,000.
b. $370,000.
c. $380,000.
d. $390,000.

Bell Corp.'s comparative balance sheet at December 31, 2008 and 2007 reported accumulated depreciation balances of $800,000 and $600,000, respectively. Property with a cost of $50,000 and a carrying amount of $38,000 was the only property sold in 2008. Depreciation charged to operations in 2008 was
a. $188,000.
b. $200,000.
c. $212,000.
d. $224,000.

. If a business entity entered into certain related party transactions, it would be required to disclose all of the following information except the
a. nature of the relationship between the parties to the transactions.
b. nature of any future transactions planned between the parties and the terms involved.
c. dollar amount of the transactions for each of the periods for which an income state-ment is presented.
d. amounts due from or to related parties as of the date of each balance sheet presented.

. When a corporation pays a note payable and interest,
a. the account notes payable will be increased.
b. the account interest expense will be decreased.
c. they will debit notes payable and interest expense.
d. they will debit cash.

. Panda Corporation paid cash of $18,000 on June 1, 2007 for one year's rent in advance and recorded the transaction with a debit to Prepaid Rent. The December 31, 2007 adjusting entry is
a. debit Prepaid Rent and credit Rent Expense, $7,500.
b. debit Prepaid Rent and credit Rent Expense, $10,500.
c. debit Rent Expense and credit Prepaid Rent, $10,500.
d. debit Prepaid Rent and credit Cash, $7,500.

. A company that uses the last-in, first-out (LIFO) method of inventory pricing finds at an interim reporting date that there has been a partial liquidation of the base period inventory level. The decline is considered temporary and the partial liquidation is expected to be replaced prior to year end. The amount shown as inventory at the interim reporting date should
a. be shown at the actual level, and cost of sales for the interim reporting period should include the expected cost of replacement of the liquidated LIFO base.
b. be shown at the actual level, and cost of sales for the interim reporting period should reflect the historical cost of the liquidated LIFO base.
c. not give effect to the LIFO liquidation, and cost of sales for the interim reporting period should reflect the historical cost of the liquidated LIFO base.
d. be shown at the actual level, and the decrease in inventory level should not be reflected in the cost of sales for the interim reporting period.

. In January 2008, Otto, Inc. estimated that its year-end bonus to executives would be $720,000 for 2008. The actual amount paid for the year-end bonus for 2007 was $660,000. The estimate for 2008 is subject to year-end adjustment. What amount, if any, of expense should be reflected in Otto's quarterly income statement for the three months ended March 31, 2008?
a. $ -0-.
b. $165,000.
c. $180,000.
d. $720,000.

Lopez Company's net accounts receivable were $600,000 at December 31, 2007 and $660,000 at December 31, 2008. Net cash sales for 2008 were $390,000. The accounts receivable turnover for 2008 was 7.0. What were Lopez's total net sales for 2008?
a. $2,730,000.
b. $4,410,000.
c. $4,800,000.
d. $4,020,000.

How does failure to record accrued revenue distort the financial reports?
a. It understates revenue, net income, and current assets.
b. It understates net income, stockholders' equity, and current liabilities.
c. It overstates revenue, stockholders' equity, and current liabilities.
d. It understates current assets and overstates stockholders' equity.

A contingent liability which is normally accrued is
a. notes receivable discounted.
b. accommodation endorsements on customer notes.
c. additional compensation that may be payable on a dispute now being arbitrated.
d. estimated claims under a service warranty on new products sold.

. Which of the following items is a current liability?
a. Bonds due in three months (for which there is an adequate sinking fund classified as a long-term investment).
b. Bonds due in three years.
c. Bonds (for which there is an adequate appropriation of retained earnings) due in eleven months.
d. Bonds to be refunded when due in eight months, there being no doubt about the marketability of the refunding issue.

On June 15, 2007 Henry Corporation accepted delivery of merchandise which it purchased on account. As of June 30 Henry had not recorded the transaction or included the merchandise in its inventory. The effect of this error on its balance sheet for June 30, 2007 would be
a. assets and stockholders' equity were overstated but liabilities were not affected.
b. stockholders' equity was the only item affected by the omission.
c. assets and liabilities were understated but stockholders' equity was not affected.
d. assets and stockholders' equity were understated but liabilities were not affected.

. Reversing entries are most commonly used in relation to year-end adjusting entries that
a. allocate the expired portion of a depreciable asset to expense.
b. amortize intangible assets.
c. provide for bad debt expense.
d. accrue interest revenue on notes receivable.

Of the following adjusting entries, which one would cause an increase in assets at the end of the period?
a. The entry to record the earned portion of rent received in advance.
b. The entry to accrue unrecorded interest expense.
c. The entry to accrue unrecorded interest revenue.
d. The entry to record expiration of prepaid insurance.

. Alton, Inc. is a retailer of home appliances and offers a service contract on each appliance sold. Alton sells appliances on installment contracts, but all service contracts must be paid in full at the time of sale. Collections received for service contracts should be recorded as an increase in a
a. deferred revenue account.
b. sales contracts receivable valuation account.
c. stockholders' valuation account.
d. service revenue account.

. Why is it necessary to make adjusting entries?
a. The accountant has made errors in recording external transactions.
b. Certain facts about the affairs of the business are not included in the ledger as built up from external transactions.
c. The accountant wants to show the largest possible net income for the period.
d. The accountant wants to show the net cash flow for the year.

Notes to financial statements should not be used to
a. describe the nature and effect of a change in accounting principles.
b. identify substantial differences between book and tax income.
c. correct an improper financial statement presentation.
d. indicate basis for asset valuation.

The characteristic of consistency is best demonstrated when
a. expenses are reported as charges against the period in which incurred.
b. the effect of changes in accounting procedure is properly disclosed.
c. extraordinary gains and losses are not reported on the income statement.
d. accounting procedures are adopted which give a consistent rate of net income.

The current assets section of a balance sheet should never include
a. a receivable from a customer not collectible for over one year.
b. the premium paid on short-term bond investment.
c. goodwill arising from the purchase of a going business.
d. customers' accounts with credit balances.

. On January 1, 2007, Nott Co. sold to Day Corp. $400,000 of its 10% bonds for $354,118 to yield 12%. Interest is payable semiannually on January 1 and July 1. What amount should Nott report as interest expense for the six months ended June 30, 2007?
a. $17,706
b. $20,000
c. $21,247
d. $24,000

On January 4, 2007, Gregg Co. leased a building to Cole Corp. for a ten-year term at an annual rental of $75,000. At inception of the lease, Gregg received $300,000 covering the first two years' rent of $150,000 and a security deposit of $150,000. This deposit will not be returned to Cole upon expiration of the lease but will be applied to payment of rent for the last two years of the lease. What portion of the $300,000 should be shown as a current and long-term liability in Gregg's December 31, 2007 balance sheet?
Current Liability Long-term Liability
a. $0 $300,000
b. $75,000 $150,000
c. $150,000 $150,000
d. $150,000 $75,000

Joe Novak Corporation reports the following information:
Net cash provided by operating activities $215,000
Average current liabilities 150,000
Average long-term liabilities 100,000
Dividends paid 60,000
Capital expenditures 110,000
Payments of debt 35,000
Joe Novak's free cash flow is
a. $10,000.
b. $45,000.
c. $105,000.
d. $155,000.

Which of these is generally an example of an extraordinary item?
a. Loss incurred because of a strike by employees.
b. Write-off of deferred marketing costs believed to have no future benefit.
c. Gain resulting from the devaluation of the U.S. dollar.
d. Gain resulting from the state exercising its right of eminent domain on a piece of land used as a parking lot.

Income taxes are allocated to
a. extraordinary items.
b. discontinued operations.
c. prior period adjustments.
d. all of these.

Gross billings for merchandise sold by Otto Company to its customers last year amounted to $15,720,000; sales returns and allowances were $370,000, sales discounts were $175,000, and freight-out was $140,000. Net sales last year for Otto Company were
a. $15,720,000.
b. $15,350,000.
c. $15,175,000.
d. $15,035,000.

Problem 1 -
The following list of accounts and their balances represents the unadjusted trial balance of Bly Company at December 31, 2007:
Cash $ 30,890
Short-term Investment 60,000
Accounts Receivable 69,000
Allowance for Doubtful Accounts $ 500
Merchandise Inventory 54,720
Prepaid Rent 36,000
Plant and Equipment 160,000
Accumulated Depreciation 14,740
Accounts Payable 11,370
Bonds Payable 90,000
Common Stock 170,000
Retained Earnings 97,180
Sales 214,800
Cost of Goods Sold 154,400
Transportation-Out 11,000
Salaries and Wages Expense 32,000
Interest Expense 2,040
Rent Revenue 21,600
Miscellaneous Expense 890
Insurance Expense 9,250
$620,190 $620,190

Additional Data:

1. The balance in the Insurance Expense account contains the premium costs of three policies:
Policy 1, remaining cost of $2,550, 1-yr. term, taken out on May 1, 2006;
Policy 2, original cost of $5,400, 3-yr. term, taken out on Oct. 1, 2007;
Policy 3, original cost of $1,300, 1-yr. term, taken out on Jan. 1, 2007.

2. The regular rate of depreciation is 10% per year. Acquisitions and retirements during a year are depreciated at half this rate. There were no purchases during the year. On December 31, 2006, the balance of the Plant and Equipment account was $260,000.

3. On December 28, 2007, the bookkeeper incorrectly credited sales for a receipt on account in the amount of $10,000.

4. At December 31, 2007, salaries accrued but unpaid were $4,200.

5. Bly estimates that 2% of sales will become uncollectible.

6. On August 1, 2007, Bly purchased, as a short-term investment, 70 $1,000, 9% bonds of Allen Corp. at par. The bonds mature on August 1, 2008. Interest payment dates are July 31 and January 31.

(a) Record the necessary correcting and adjusting entries.
(b) Indicate which of the adjusting entries may be reversed at the beginning of the next accounting period.

Problem 2 -
In computing your answers to the cases below, you can round your answer to the nearest dollar. Present value tables are provided on the next page.

Use the following information in answering Cases 1 and 2 below. Answer only one. Remember to indicate which Case you choose in your answer.:

On January 1, 2001, Carr Company sold $600,000 of 10% bonds, due January 1, 2011. Interest on these bonds is paid on July 1 and January 1 each year. According to the terms of the bond contract, Carr must establish a sinking fund for the retirement of the bond principal starting no later than January 1, 2009. Since Carr was in a tight cash position during the years 2001 through 2006, the first contribution into the fund was made on January 1, 2007.

Case 1: Assume that, starting with the January 1, 2007 contribution, Carr desires to make a total of four equal annual contributions into this fund. Compute the amount of each of these contributions assuming the interest rate is 8% compounded annually.

Case 2: On January 2, 2007, Milton Company loaned $80,000 to Renn Company. The terms of this loan agreement stipulate that Renn is to make 5 equal annual payments to Milton at 10% interest compounded annually. Assume the payments are to begin on December 31, 2007. Compute the amount of each of these payments.

Table 1
Future Value of 1
Periods 6% 8% 9% 10% 12%
1 1.06000 1.08000 1.09000 1.10000 1.1200
2 1.12360 1.16640 1.18810 1.21000 1.2544
3 1.19102 1.25971 1.29503 1.33100 1.4049
4 1.26248 1.36049 1.41158 1.46410 1.5735
5 1.33823 1.46933 1.53862 1.61051 1.7623

Table 2
Present Value of 1
Periods 6% 8% 9% 10% 12%
1 0.94340 0.92593 0.91743 0.90909 0.8928
2 0.89000 0.85734 0.84168 0.82645 0.7971
3 0.83962 0.79383 0.77218 0.75132 0.7117
4 0.79209 0.73503 0.70843 0.68301 0.6355
5 0.74726 0.68058 0.64993 0.62092 0.5674

Table 3
Future Value of an Ordinary Annuity of 1
Periods 6% 8% 9% 10% 12%
1 1.00000 1.00000 1.00000 1.00000 1.0000
2 2.06000 2.08000 2.09000 2.10000 2.1200
3 3.18360 3.24640 3.27810 3.31000 3.3744
4 4.37462 4.50611 4.57313 4.64100 4.7793
5 5.63709 5.86660 5.98471 6.10510 6.3528

Table 4
Present Value of an Ordinary Annuity of 1
Periods 6% 8% 9% 10% 12%
1 0.94340 0.92593 0.91743 0.90909 0.8928
2 1.83339 1.78326 1.75911 1.73554 1.6900
3 2.67301 2.57710 2.53130 2.48685 2.4018
4 3.46511 3.31213 3.23972 3.16986 3.0373
5 4.21236 3.99271 3.88965 3.79079 3.6047

Table 5
Present Value of an Annuity Due of 1
Periods 6% 8% 9% 10% 12%
1 1.00000 1.00000 1.00000 1.00000 1.0000
2 1.94340 1.92593 1.91743 1.90909 1.8928
3 2.83339 2.78326 2.75911 2.73554 2.6900
4 3.67301 3.57710 3.53130 3.48685 3.4018
5 4.46511 4.31213 4.23972 4.16986 4.0373

Problem 3 -
On February 1, 2007, Nance Contractors agreed to construct a building at a contract price of $6,000,000. Nance estimated total construction costs would be $4,000,000 and the project would be finished in 2009. Information relating to the costs and billings for this contract is as follows:
2007 2008 2009
Total costs incurred to date $1,500,000 $2,640,000 $4,600,000
Estimated costs to complete 2,500,000 1,760,000 -0-
Customer billings to date 2,200,000 4,000,000 5,600,000
Collections to date 2,000,000 3,500,000 5,500,000

Fill in the correct amounts on the following schedule. For percentage-of-completion accounting and for completed-contract accounting, show the gross profit that should be recorded for 2007, 2008, and 2009.

Percentage-of-Completion Completed-Contract
Gross Profit Gross Profit
2007 2007

2008 2008

2009 2009

Problem 4 -
The condensed financial statements of James Company for the years 2007-2008 are presented below:
James Company
Comparative Balance Sheets
As of December 31, 2008 and 2007

2008 2007
Cash $ 420,000 $ 120,000
Receivables (net) 460,000 300,000
Inventories 380,000 340,000
Plant and equipment 1,700,000 1,112,000
Accumulated depreciation (260,000) (192,000)
$2,700,000 $1,680,000

Accounts payable $ 240,000 $ 160,000
Dividends payable -0- 40,000
Bonds payable 400,000 -0-
Common stock ($10 par) 1,520,000 1,200,000
Retained earnings 540,000 280,000
$2,700,000 $1,680,000
Additional data:
Market value of stock at 12/31/08 is $80 per share.
James sold 32,000 shares of common stock at par on July 1, 2008.

James Company
Condensed Income Statement
For the Year Ended December 31, 2008

Sales $2,400,000
Cost of goods sold 1,600,000
Gross profit 800,000
Administrative and selling expense 500,000
Net income $ 300,000

Compute the following financial ratios by placing the proper amounts in the parentheses provided for numerators and denominators. Fill in the numerator and denominator only; do not compute the ratios.

a. Current ratio at 12/31/08 ( )
( )

b. Acid test ratio at 12/31/08 ( )
( )

c. Receivables turnover in 2008 ( )
( )

d. Inventory turnover in 2008 ( )
( )

e. Profit margin on sales in 2008 ( )
( )

f. Earnings per share in 2008 ( )
( )

g. Rate of return on common stock equity in 2008 ( )
( )

h. Price earnings ratio at 12/31/08 ( )
( )

i. Debt to total assets at 12/31/08 ( )
( )

j. Book value per share at 12/31/08 ( )

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