a. PROBLEM 2 In early 2005, while reviewing KEVIN INC.'s 2004 financial records, KEVIN INC.S accountant discovered several errors. For each of the error listed below, indicate the effect on net income for both 2003 and 2004 and the necessary adjusting entries, assuming : books are still open b. books are already closed 1. KEVIN INC. frequently borrows from the bank in order to maintain sufficient operating cash. The following loans were at 12% interest rate, with interest payable at maturity. KEVIN INC. repaid each loan on its scheduled maturity date. DATE OF LOAN AMOUNT MATURITY DATE 11.01.03 50,000 10.31.04 02.01.04 150,000 07.31.04 05.01.04 80,000 01.31.05 KEVIN INC. records interest expense when the loans are repaid. As a result, interest expense of P15,000 was recorded in 2004 2. Pollution control devices costing P84,000 which is high in relation to the cost of the original equipment, were installed in 2003 and were charged to repairs in 2003. The original equipment referred to has a remaining useful life of 6 years on December 30, 2003 and is being depreciated using the straight line method. Assume tax rate of 32%. 3. KEVIN INC. receives subscription payments for annual (one year) subscriptions to its magazine. Payments are recorded as revenue when received. Amounts received but unearned at the end of each of the last three years are shown below. 2002 2003 2004 Unearned revenues P240,000 P300,000 P352,000 KEVIN INC. failed to record the unearned revenues in each of the three years. 4. KEVIN INC. has estimated bad debts using the percentage-of-sales method since their business began operations in 2002. Information relating to bad debts and sales is as follows: Estimated Bad Debt Expense Actual Year Sales (% of Sales) Bad Debts 2001 P 87,000 P2,610 P1,200 2002 123,000 3,690 2,850 2003 147,000 4,410 3,222 At the beginning of 2004, KEVIN INC. proposes changing their estimation of bad debt expense from 3 percent of sales to 2 percent. Sales for the year totaled P1,630,000 and actual bad debts amounted to P3,720. The company had already made an adjustment based on the old rate. 5. Beginning merchandise inventory (January 01, 2003) was understated by P8,640. 6. Merchandise costing P24,000 was sold for P40,000 on December 29, 2003 but the sale was recorded in 2004. The merchandise was shipped FOB shipping point and was not included in ending inventory. 7. A one-year note receivable of P96,000 was held by KEVIN INC. beginning October 1, 2003. Payment of the 10 percent note and accrued interest was received upon maturity. No adjusting entry was made on December 31, 2003. 8. Equipment with a ten-year life was purchased on January 1, 2003, for P39,200. No depreciation expense was recorded during 2003 or 2004. Assume that the equipment has no salvage value and that KEVIN INC. uses the straight-line method for recording depreciation. 9. A two-year fire insurance policy was purchased on May 1, 2003, for P57,500. The entire amount was debited to Prepaid Insurance. No adjusting entry was made in 2003 or 2004. 10. Accrued expenses omitted at the end of the year are P43,000 in 2002, P43,000 in 2003 and P92,000 in 2004. a. PROBLEM 2 In early 2005, while reviewing KEVIN INC.'s 2004 financial records, KEVIN INC.S accountant discovered several errors. For each of the error listed below, indicate the effect on net income for both 2003 and 2004 and the necessary adjusting entries, assuming : books are still open b. books are already closed 1. KEVIN INC. frequently borrows from the bank in order to maintain sufficient operating cash. The following loans were at 12% interest rate, with interest payable at maturity. KEVIN INC. repaid each loan on its scheduled maturity date. DATE OF LOAN AMOUNT MATURITY DATE 11.01.03 50,000 10.31.04 02.01.04 150,000 07.31.04 05.01.04 80,000 01.31.05 KEVIN INC. records interest expense when the loans are repaid. As a result, interest expense of P15,000 was recorded in 2004 2. Pollution control devices costing P84,000 which is high in relation to the cost of the original equipment, were installed in 2003 and were charged to repairs in 2003. The original equipment referred to has a remaining useful life of 6 years on December 30, 2003 and is being depreciated using the straight line method. Assume tax rate of 32%. 3. KEVIN INC. receives subscription payments for annual (one year) subscriptions to its magazine. Payments are recorded as revenue when received. Amounts received but unearned at the end of each of the last three years are shown below. 2002 2003 2004 Unearned revenues P240,000 P300,000 P352,000 KEVIN INC. failed to record the unearned revenues in each of the three years. 4. KEVIN INC. has estimated bad debts using the percentage-of-sales method since their business began operations in 2002. Information relating to bad debts and sales is as follows: Estimated Bad Debt Expense Actual Year Sales (% of Sales) Bad Debts 2001 P 87,000 P2,610 P1,200 2002 123,000 3,690 2,850 2003 147,000 4,410 3,222 At the beginning of 2004, KEVIN INC. proposes changing their estimation of bad debt expense from 3 percent of sales to 2 percent. Sales for the year totaled P1,630,000 and actual bad debts amounted to P3,720. The company had already made an adjustment based on the old rate. 5. Beginning merchandise inventory (January 01, 2003) was understated by P8,640. 6. Merchandise costing P24,000 was sold for P40,000 on December 29, 2003 but the sale was recorded in 2004. The merchandise was shipped FOB shipping point and was not included in ending inventory. 7. A one-year note receivable of P96,000 was held by KEVIN INC. beginning October 1, 2003. Payment of the 10 percent note and accrued interest was received upon maturity. No adjusting entry was made on December 31, 2003. 8. Equipment with a ten-year life was purchased on January 1, 2003, for P39,200. No depreciation expense was recorded during 2003 or 2004. Assume that the equipment has no salvage value and that KEVIN INC. uses the straight-line method for recording depreciation. 9. A two-year fire insurance policy was purchased on May 1, 2003, for P57,500. The entire amount was debited to Prepaid Insurance. No adjusting entry was made in 2003 or 2004. 10. Accrued expenses omitted at the end of the year are P43,000 in 2002, P43,000 in 2003 and P92,000 in 2004