Accounting 418
Accounting Theory
Assignment #15

Provide answers for the following situations. Be sure your answers are complete, grammatically correct, and based on sound accounting theory. As seniors, you are expected to submit work that is of near-professional quality.
Problem 15-1

On February 1, 2010, Aubrey Company sold its 5-year, $1,000 par value, 8% bonds, which were convertible at the option of the investor into Aubrey Company common stock at a ratio of 10 shares of common stock for each bond. The convertible bonds were sold by Aubrey Company at a discount. Interest is payable annually each February 1. On February 1, 2013, Mel Elbert Company, an investor in the Aubrey Company convertible bonds, tendered 1,000 bonds for conversion into 10,000 shares of Aubrey Company common stock which had a market value of $110 per share at the date of the conversion.

How should Aubrey Company account for the conversion of the convertible bonds into common stock under both the book value and market value methods? Discuss the rationale for each method.

Problem 15-2
Daley, Inc. is consistently profitable. Daley’s normal financial statement relationships are as follows:

I. Current ratio 3 to 1
II. Inventory turnover 4 times
III. Total debt/total assets ratio 0.5 to 1

For items 1 through 6, determine whether each 2013 transaction or event increased, decreased, or had no effect on each of the 2013 ratios.
1. Daley issued a stock dividend.

2. Daley declared, but did not pay, a cash dividend.

3. Customers returned invoiced goods for which they had not paid.

4. Accounts payable were paid on December 31, 2013.

5. Daley recorded both a receivable from an insurance company and a loss from fire damage to a factory building.

6. Early in 2013, Daley increased the selling price of one of its products that had a demand in excess of capacity. The number of units sold in 2012 and 2013 was the same.

Problem 15-3

One of the following graphs describes the behavior of a cost, expense, revenue, or valuation amount that would appear on a series of annual financial statements for each of the following independent situations. All policy decisions and events that caused the changes in the behavior patterns of the charted amounts took place in the middle of the time span portrayed in the graphs.

The vertical axes of the graphs represent the annual dollar amount of cost, expense, income, or valuation, as the case may be, and the horizontal axes represent the passage of time. The axes intersect at zero.

$

time
A B C D E

F G H I J

K L M N O

For each of the following items, select the graph which best describes the behavior of the cost, expense, revenue or valuation amount, as the case may be. A graph may be used once, more than once, or not at all.

1. Capital stock outstanding, where the payment of cash dividends replaced the distribution of stock dividends.
2. Interest revenue on sinking fund investments, where annual payments to the fund were constant.
3. Gross margin, where sales volume was constant, prices were constant, and the basis for valuing finished goods was changed from absorption costing to variable costing.
4. Accumulated depreciation, where there were no additions or retirements, accelerated depreciation was used, and the assets became fully depreciated.

5. Inventory valuation, where sales volume was constant, prices were constant, and the inventory turnover ratio was steadily increasing.
6. Finished goods inventory valuation, where inventory quantities were constant, costs were constant, and the valuation basis was changed from absorption costing to variable costing.
7. Bond interest expense, where original 6% bonds, sold to yield 5%, were refunded at maturity by the issuance of new 6% bonds, also sold to yield 5%, and where the difference between face value and the proceeds on both issues has been amortized on the straight-line basis.
8. Bad debt expense, where sales volume was constant, sales prices were increasing steadily, and the bad debts experience rate was changed from two to one percent of sales.
9. Rent expense for an operating lease with payments that increase by an equal amount each year.
10. Total expenses for a capital lease in which straight-line depreciation is used for the leased asset.

Problem 15-4

Pucket Corp. is in the process of preparing its financial statements for the year ended December 31, 2013. Items 1 through 8 represent various transactions or situations that occurred during 2013.

For items 1 through 8, select from the list below the financial statement category in which the item should be presented. A financial statement category may be selected once, more than once, or not at all.

Financial Statement Categories:

A. Income from continuing operations, with no separate disclosure
B. Income from continuing operations, with separate disclosure
C. Extraordinary items
D. Separate component of shareholders’ equity
E. None of the above categories include this item.
1. An increase in the unrealized holding loss for trading securities.
2. An increase in the unrealized holding loss for available-for-sale securities.
3. Income from operations of a discontinued segment in the segment’s disposal year, but before the measurement date.
4. A gain on remeasuring a foreign subsidiary’s financial statements from the local currency into the functional currency.
5. A loss on translating a foreign subsidiary’s financial statements from the functional local currency into the reporting currency.
6. A loss caused by a major earthquake in an area previously considered to be subject to only minor tremors.
7. The probable receipt of $1,000,000 from a pending lawsuit.
8. The purchase of research and development services. There were no other research and development activities.
Ethics Case 15-1

Andrea Pafko, corporate comptroller for Nicholson Industries, is trying to decide how to present “Property, plant, and equipment” in the balance sheet. She realizes that the statement of cash flows will show that the company made a significant investment in purchasing new equipment this year, but overall she knows the company’s plant assets are rather old. She feels that she can disclose one figure titled “Property, plant, and equipment, net of depreciation,” and the result will be a low figure. However, it will not disclose the age of the assets. If she chooses to show the cost less accumulated depreciation, the age of the assets will be apparent. She proposed the following:

Property, plant, and equipment
net of depreciation $10,000,000

rather than

Property, plant, and equipment $50,000,000
Less: Accumulated Depreciation 40,000,000
Net book value $10,000,000

Answer the following questions:

a. What are the ethical issues involved?

b. What should Pafko do?
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