Analysis of financial statement disclosure of effects of depreciation policy. A recent annual report of Caterpillar Tractor Company contained the following statement of depreciation policy:

Depreciation is computed principally using accelerated methods for both income tax and financial reporting purposes. These methods result in a larger allocation of the cost of buildings, machinery, and equipment to operations in the early years of the lives of assets than does the straight-line method.

Then Caterpillar disclosed the amounts for "Buildings, Machinery, and Equipment

—

Net" as they would appear if the straight-line method had always been used. Exhibit 8.8 shows these amounts and other data from the financial statements for three recent years.

a. What amounts would be reported for depreciation expense for Years 2 and 3 if the straight-line method had always been used?

b. Now assume a 40 percent tax rate. Assume also that straight-line depreciation had always been used for both income tax and financial reporting purposes and that Buildings, Machinery, and Equipment—Net on the balance sheet amounted to

$4,020 at the end of Year 3. What other items on the balance sheet for the end of Year 3 would probably change and by how much?

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ORMES COMPANY Comparative Balance Sheets and Income Statement EXHIBIT 8.7 [Problem 46) BALANCE SHEETS Cash Accounts Receivable Less Allowance for Uncollectibles Inventory Property, Plant, and Equipment Accumulated Depreciation Patents Accumulated Amortization Total Assets. Accounts Payable Common Stock Retained Earnings Total Equities YEAR 2 INCOME STATEMENT Net Sales Gain on Sale of Patent Cost of Goods Sold Selling and Administrative Expense Bad Debt Expense Depreciation Expense Amortization Expense Loss on Sale of Equipment Income Tax Expense Total Expenses. December 31 Year 1 Year 2 $ 25,700 $ 31,500 120,000 130.000 (2,400) (3,200) 175,000 200,000 247,300 300,200 (78,000) (95,000) 75,000 (15,000) $ 623,500 $487,600 $155,000 $ 182,000 100,000 232,600 173,900 267,600 $487,600 $ 623,500 $1,000,000 125,000 $1,125,000 $ 750,000 203,000 20,000 39,000 15.000 8,000 30,000 $1,065,000 $ 60,000 Net Income... Notes: (1) During Year 2, Ormes acquired property, plant, and equipment as follows: For Cash. $62,900 By Issuing Common Stock 30,000 (2) During Year 2, Ormes sold a patent on a device developed internally by its research staff for $125,000 and purchased a patent for cash totaling $75.000.