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WEEK 6 WILEYCPA Ownership of 51% of the outstanding voting stock of a company would usually result in The use of the cost method. The use of the lower of cost or market method. The use of the equity method. A consolidation. A subsidiary, acquired for cash in a business combination, owned equipment with a market value in excess of book value as of the date of combination. A consolidated balance sheet prepared immediately after the acquisition would treat this excess as Goodwill. Plant and equipment. Retained earnings. Deferred credits. Sayon Co. issues 200,000 shares of $5 par value common stock to acquire Trask Co. in a purchase-business combination. The market value of Sayon's common stock is $12. Legal and consulting fees incurred in relationship to the purchase are $110,000. Registration and issuance costs for the common stock are $35,000. What should be recorded in Sayon's additional paid-in capital account for this business combination? $1,545,000 $1,400,000 $1,365,000 $1,255,000 Which of the following kinds of intangible assets on the books of an acquired entity immediately before a business combination would be recognized by the acquiring entity? Future benefits that derive from legal rights Future benefits that can be separately sold Yes Yes Yes No No Yes No No Alpha Company is in the process of determining whether the carrying amounts of the long-lived assets and identifiable intangibles acquired in a business combination are recoverable. Alpha accounted for the business combination under the acquisition method and allocated part of the acquisition price to goodwill. In determining the recoverability of the long-lived assets and the identifiable intangibles acquired in the business combination, the goodwill should be Allocated to the long-lived assets and identifiable intangible assets. Ignored. Allocated only to the identifiable intangible assets. Allocated only to the long-lived assets. How should the acquirer recognize a bargain purchase in a business acquisition? As negative goodwill in the statement of financial position. As goodwill in the statement of financial position. As a gain in earnings at the acquisition date. As a deferred gain that is amortized into earnings over the estimated future periods benefite Which of the following general types of information about a business combination must be disclosed? I. The primary reason for a business combination. II. How the acquirer gained control of the business. III. The acquisition-date fair value of consideration transferred and each major class of asset acquired and liability assumed. I and II only. I and III only. II and III only. I, II, and III. On December 31, 1988, Saxe Corporation was merged into Poe Corporation. In the business combination, Poe issued 200,000 shares of its $10 par common stock, with a market price of $18 a share, for all of Saxe's common stock. The stockholders' equity section of each company's balance sheet immediately before the combination was: Poe Saxe Common Stock $3,000,000 $1,500,000 Additional Paid-In Capital 1,300,000 150,000 Retained Earnings 2,500,000 850,000 $6,800,000 $2,500,000 ========= ========= Assume that the merger is accounted for using the acquisition method of accounting. December 31, 1988 additional paid-in capital should be reported at $ 950,000 $1,300,000 $1,450,000 $2,900,000 Which one of the following is not a characteristic of a variable-interest entity? A variable-interest entity is thinly capitalized. The equity holders in a variable-interest entity control the entity. The risks and rewards associated with a variable-interest entity mostly accrue to the variable-interest holders. The value of a variable-interest entity depends on the net asset value of the variable-interest entity. Under IFRS which of the following would not be recognized as part of a business combination. Contingent asset. Contingent liability. Goodwill. Fair value of the consideration transferred. Combined statements may be used to present the results of operations of Unconsolidated Subsidiaries Companies under common management Yes Yes Yes No No Yes No No Beni Corp. acquired 100% of Carr Corp.'s outstanding capital stock for $430,000 cash. Immediately before the acquisition, the balance sheets of both corporations reported the following: Assets Liabilities Common stock Retained earnings Liabilities and stockholders' equity Beni Carr $2,000,000 $ 750,000 $ 750,000 $ 400,000 1,000,000 310,000 250,000 40,000 $2,000,000 $ 750,000 At the date of acquisition, the fair value of Carr's assets was $50,000 more than the aggregate carrying amounts. In the consolidated balance sheet prepared immediately after the acquisition, the consolidated stockholders' equity should amount to $1,680,000 $1,650,000 $1,600,000 $1,250,000 On January 1, year 2, Neel Corp. issued 400,000 additional shares of $10 par value common stock in exchange for all of Pym Corp.'s common stock. Immediately before this business combination, Neel's stockholders' equity was $16,000,000 and Pym's stockholders' equity was $8,000,000. On January 1, year 2, the fair value of Neel's common stock was $20 per share, and the fair value of Pym's net assets was $8,000,000. Neel's net income for the year ended December 31, year 2, exclusive of any consideration of Pym, was $2,500,000. Pym's net income for the year ended December 31, year 2, was $600,000. During year 2 Neel paid dividends of $900,000. Neel had no business transactions with Pym in year 2. Assuming that this business combination is appropriately accounted for as a business acquisition, consolidated stockholders' equity at December 31, year 2, should be $17,600,000 $18,200,000 $26,200,000 $27,100,000 Pride, Inc. owns 80% of Simba, Inc.'s outstanding common stock. Simba, in turn, owns 10% of Pride's outstanding common stock. What percentage of the common stock cash dividends declared by the individual companies should be reported as dividends declared in the consolidated financial statements? Dividends declared by Pride Dividends declared by Simba 90% 0% 90% 20% 100% 0% 100% 20% Par Corp. owns 60% of Sub Corp.'s outstanding capital stock. On May 1, year 2, Par advanced Sub $70,000 in cash, which was still outstanding at December 31, year 2. What portion of this advance should be eliminated in the preparation of the December 31, year 2, consolidated balance sheet? $70,000 $42,000 $28,000 $0 Scroll, Inc., a wholly owned subsidiary of Pirn, Inc., began operations on January 1, 2005. The following information is from the condensed 2005 income statements of Pirn and Scroll: Pirn Scroll Sale to Scroll $100,000 $ -Sales to others 400,000 300,000 500,000 300,000 Cost of goods sold: Acquired from Pirn -80,000 Acquired from others 350,000 190,000 Gross profit 150,000 30,000 Depreciation 40,000 10,000 Other expenses 60,000 15,000 Income from operations 50,000 5,000 Gain on sale of equipment to Scroll 12,000 ___--___ Income before income taxes $ 38,000 $ 5,000 Additional information: Sales by Pirn to Scroll are made on the same terms as those made to third parties. Equipment purchased by Scroll from Pirn for $36,000 on January 1, 2005, is depreciated using the straight-line method over four years. In Pirn's December 31, 2005, consolidating worksheet, how much intercompany profit should be eliminated from Scroll's inventory? $30,000 $20,000 $10,000 $6,000 On January 1, 2005, Poe Corp. sold a machine for $900,000 to Saxe Corp., its wholly-owned subsidiary. Poe paid $1,100,000 for this machine, which had accumulated depreciation of $250,000. Poe estimated a $100,000 salvage value and depreciated the machine on the straightline method over 20 years, a policy which Saxe continued In Poe's December 31, 2005, consolidated balance sheet, this machine should be included in cost and accumulated depreciation as Cost Accumulated depreciation $1,100,000 $300,000 $1,100,000 $290,000 $900,000 $40,000 $850,000 $42,500 P Co. purchased term bonds at a premium on the open market. These bonds represented 20 percent of the outstanding class of bonds issued at a discount by S Co., P's wholly owned subsidiary. P intends to hold the bonds until maturity. In a consolidated balance sheet, the difference between the bond carrying amounts in the two companies would be Included as a decrease to retained earnings. Included as an increase to retained earnings. Reported as a deferred debit to be amortized over the remaining life of the bonds. Reported as a deferred credit to be amortized over the remaining life of the bonds. Under IFRS, a parent may exclude a subsidiary from consolidation if all of the following conditions exist, except: It is wholly or partially owned and its other owners do not object to nonconsolidation. It reports only one class of stock in its balance sheet. Its parent prepares consolidated financial statements that comply with IFRS. It does not have any debt or equity instruments publicly traded. Nolan owns 100% of the capital stock of both Twill Corp. and Webb Corp. Twill purchases merchandise inventory from Webb at 140% of Webb's cost. During 2007, merchandise that cost Webb $40,000 was sold to Twill. Twill sold all of this merchandise to unrelated customers for $81,200 during 2007. In preparing combined financial statements for 2007, Nolan's bookkeeper disregarded the common ownership of Twill and Webb. What amount should be eliminated from cost of goods sold in the combined income statement for 2007? $56,000 $40,000 $24,000 $16,000 Which of the following is not a derivative financial instrument? Interest rate and foreign currency swaps. Outstanding loan commitments written. Option contract. Trade accounts receivable. Under IFRS, which one of the following instruments is most likely to be treated in its entirety as a financial liability? Convertible debt. Convertible preferred stock. Redeemable preferred stock. Common stock with a preemptive right. Whether recognized or unrecognized in an entity's financial statements, disclosure of the fair values of the entity's financial instruments is required when It is practicable to estimate those values Aggregated fair values are material to the entity No No No Yes Yes No Yes Yes APOLLO SHOES, INC. An Audit Case to Accompany AUDITING AND ASSURANCE SERVICES Prepared by Timothy J. Louwers James Madison University J. Kenneth Reynolds Louisiana State University McGraw-Hill/Irwin ii The McGraw-Hill Companies, Inc., 2007 Apollo Shoes, Inc. Acknowledgements We would like to gratefully acknowledge the following individuals for their assistance in preparing and completing this case. Sincere appreciation is due to Reagan McDougall, Meghan Peters, Denise Patterson, Bob Ramsay, and several classes of Louisiana State University students. Their suggestions greatly enhanced several portions of the case. However, we remain responsible for all errors of commission and omission. McGraw-Hill/Irwin Apollo Shoes, Inc. The McGraw-Hill Companies, Inc., 2007 iii McGraw-Hill/Irwin iv The McGraw-Hill Companies, Inc., 2007 Apollo Shoes, Inc. Introduction Apollo Shoes, Inc. is an audit case designed to introduce you to the entire audit process, from planning the engagement to drafting the final report. You are asked to assume the role of a veteran of two-to-three \"busy\" seasons, \"in-charging\" for the first time. While Apollo Shoes' growth has been phenomenal (there has been a dramatic growth in unaudited net income over the past year), there are some concerns: the client doesn't want your firm (Anderson, Olds, and Watershed (AOW)) to talk with the predecessor auditor, a labor strike is looming, and one of Apollo Shoes' largest customers is suffering some financial difficulties. Because of busy season, there is little help, other than from an untrained intern. While the intern can do \"grunt work,\" such as vouching and gathering information for you, he appears incapable of preparing workpapers, making adjusting entries, or even getting good coffee and doughnuts. Assistance does come in the form of an objective, competent internal audit staff. Communication between client personnel and other firm members takes the form of e-mail messages from the engagement partner (Arnold Anderson), the engagement manager (Darlene Wardlaw), the intern (Bradley Crumpler), and the director of Apollo's internal audit department (Karina Ramirez). Required assignments and memos are in bold print. Page indexing suggestions are given, but feel free to adjust page numbering as you see fit. The AOW intranet website (http://www.mhhe.com/louwers2e/) has many useful resources such as a repository of electronic documents (so that you won't need to input data or retype documents) and an archive of e-mail messages and their attachments, all filed by account group. While we tried to make the case as realistic as possible, limitations remain. Since you are unable to follow up directly with client personnel, you may need to rely on some evidence with which you may be uncomfortable. In an actual audit, you would be able to inquire, observe, and otherwise follow-up on any questions that you have until you feel comfortable relying on the evidence. To make sure that the case can be completed in a reasonable amount of time, we cut some corners with respect to audit sampling. Understand that audit sampling plays a large role in actual audit practice. The information is sequential in nature. In other words, pay close attention to information disclosed early in the audit (for example, in the Board of Director's minutes) as it may play a role in subsequent audit work. Similarly, the bank cutoff statement in the cash workpapers and invoices used for valuing inventory may be useful later in the search for unrecorded liabilities. Similarly, the bank confirmation contains information about long-term liabilities. Lastly, while it is difficult for us to believe that not everyone enjoys auditing as much as we do, we have tried to make the case both interesting and enjoyable (in a perverse sort of way). You can think of the project as a puzzle, in which you have to fill in all the pieces. Alternatively, you could look at the project as a murder mystery that needs a solution. In either case, have fun! Tim Louwers Harrisonburg, VA McGraw-Hill/Irwin Apollo Shoes, Inc. J. Kenneth Reynolds Baton Rouge, LA The McGraw-Hill Companies, Inc., 2007 1 Table of Contents Introduction................................................................................................................................................1 Table of Contents.......................................................................................................................................2 Planning .....................................................................................................................................................3 Internal Control Evaluation .....................................................................................................................49 Substantive Testing: Cash........................................................................................................................62 Substantive Testing: Accounts Receivable ..............................................................................................72 Substantive Testing: Inventory ...............................................................................................................83 Substantive Testing: Prepaids and Other Assets....................................................................................107 Substantive Testing: Fixed Assets .........................................................................................................113 Substantive Testing: Liabilities..............................................................................................................117 Substantive Testing: Payroll ..................................................................................................................123 Audit Wrap-up .......................................................................................................................................130 McGraw-Hill/Irwin 2 The McGraw-Hill Companies, Inc., 2007 Apollo Shoes, Inc. McGraw-Hill/Irwin Apollo Shoes, Inc. The McGraw-Hill Companies, Inc., 2007 3 Date: Thu, 25 OCT 2007 00:42:35 +0000 From: "Darlene Wardlaw"
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