Transcript Sample Problem

Sample Problem
Problem 14-2A
Instructions

Indicate in each case whether the item has been
handled in accordance with generally accepted
accounting principles. If so, indicate the key
basic concept that has been followed. If not,
indicate which concept has been violated and
tell how the item should have been recorded or
presented.
At the beginning of 2007, WWW Company bought a building for $2,000,000. At the end
of 2007, the building’s value was appraised at $2,220,000. Since there was an increase in
value, the company did not record depreciation on the building and also did not increase
the $2,000,000 recorded in the building account at time of purchase.
Handled
Properly?
No
Basic concept
Matching
Proper presentation
No depreciation was recorded.
The cost of an asset should be
charged to depreciation over the
asset’s useful life. It was, however,
appropriate that the asset’s value
was not recorded.
Click for sound:
Sele Company manufactured machinery for its own use at a cost of $600,000. The lowest
bid from an outsider was $650,000. Nevertheless, the company recorded the machinery
at $600,000.
Handled
Basic concept
Proper presentation
Properly?
Yes Cost basis, realizationAssets should be recorded at cost.
The increase in value has not been
realized.
Click for sound:
On December 31, 2007, the balance sheet of Video Heaven reported prepaid insurance at
$1,200. The prepaid insurance reflects the refund value of a three-year fire insurance
policy that originally cost $6,000 on January 1, 2006.
Handled
Properly?
No
Basic concept
Matching
Proper presentation
Prepaid insurance of $2,000 should
be shown on the balance sheet.
$2,000 of the cost should be
charged to expense each year.
*$6,000/3 = $2,000 per year
Click for sound:
The assets listed in the accounting records of Cobb’s Pharmacy include a money market
account of Jason Cobb, owner of the business. Cobb has established the savings account
so that if he needs to invest more cash in the pharmacy, it will be readily available.
Handled
Properly?
No
Basic concept
Separate entity
Proper presentation
The personal money-market account
of the owner should not be included
in the assets of the business
because it is assumed that a
business is an entity separate and
apart from its owner.
Click for sound:
On December 31, 2007, an account receivable of $1,800 due from Joe Roy, who is in the county jail
on charges of passing bad checks, is not included in the balance sheet. The owner of the business has
written off the amount because he feels certain that the debt will not be paid, even though Roy insists
that he will pay after he gets out of jail and finds a job.
Handled
Basic concept
Proper presentation
Properly?
YesMatching, conservatism It is unlikely that Roy will pay, or
be able to pay, his debt. It should
be charged off and matched against
current income.
Click for sound:
The equipment of Ace Plastics Company has a book value (cost less accumulated depreciation) of
$180,000. However, the equipment could not be sold for more than $40,000 today. The company’s
owner thinks that the machinery should nevertheless be reported on the balance sheet at $180,000
and depreciated over its useful life, because the equipment is being used regularly in the business and
it is expected to be used profitably for the next five years—the remaining useful life that is being used
for depreciation purposes.
Handled
Basic concept
Proper presentation
Properly?
Yes Cost basis, matching Assets are recorded at cost and
the cost is charged to expense
through depreciation over the
assets’ useful lives.
Click for sound:

Analyze: If WWW company were to use the accounting treatment described
in item 1, the net income would be overstated.