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Auditing Problems – Investments and PPE
Lord Gen A. Rilloraza, CPA
PPE PROBLEM 1 You were engaged by Honor Inc., a company organized at the beginning of January 2017, to audit their financial statements as of and for the period ended December 31, 2017. The entity incurred all of the following transactions related to Property, Plant and Equipment during the first half of January: Transaction Cost Recorded as Land Purchase price of land 10,540,000 Expense Fees for registration and transfer of the title of the land 80,000 Expense Demolition cost of old building 250,000 Special assessment for public roadways and other government projects Construction permit fee Architect's fees Excavation costs Cost of constructing the building Cost of temporary quarters Cost of constructing pavements and parking lot (this is not part of the blueprint of the building) Cost of constructing a permanent fence after the completion of the construction of the building Purchase price of machineries and equipment to be used in the normal operations of the entity Freight charges on the machineries and equipment Insurance costs during the delivery of the machineries and equipment Discount on early payment for the purchase of machineries and equipment; the discount was not taken Installation costs of the machineries and equipment
100,000 75,000 350,000 500,000 35,000,000 140,000
Land Imp. Expense Building Land Building Land Imp.
950,000
Land Imp.
480,000
Building
2,500,000 150,000 100,000
25,000 95,000
Mach. & Eqt. Expense Expense
Expense
Based from your audit procedures, you were able to ascertain the following: The entity received proceeds totalling to P45,000 as income. Further investigation revealed that the proceeds came from the initial testing of the equipment. During the construction of the building, an empty space was used as a parking space. The entity earned P144,500 from this activity. This amount was recorded as an income. The estimated useful life of each of the accounts under PPE are as follows: o Building – 50 years o Machineries and equipment – 20 years o Land Improvements – 20 years
The building’s residual value is P500,000 The entity applied the straight-line method in depreciating their depreciable assets.
Requirements: 1. What is the correct initial cost of the land? 2. What is the correct initial cost of the building? 3. What is the correct initial cost of land improvements? 4. What is the correct initial cost of machineries and equipment? 5. What is the correct carrying value of Property, Plant and Equipment as of December 31, 2017? 6. How much is the overstatement(understatement) on the 2017 net income of the entity? PROBLEM 2 Pinoy Foods Corporation purchased a land and building on April 1, 2017 for a lump-sum amount of P75,000,000. The fair market values of the land and the building on the date of acquisition are P24,000,000 and P48,000,000, respectively. The following transactions related to the land and building also happened during the year: Broker’s fees were paid for the properties acquired, P75,000. Real property taxes for the whole year total to P120,000. Option payments totalling to P190,000 were paid; P30,000 pertains to the property acquired. The building has an estimated useful life of 20 years, with no salvage value. The entries prepared by the entity related to the properties are as follows: Land 24,000,000 Building 48,000,000 Loss on purchase of properties 3,000,000 Cash Miscellaneous expense Cash Building Cash Real property tax expense Cash Depreciation expense Accumulated depreciation - building
75,000,000
190,000 190,000 75,000 75,000 120,000 120,000 1,802,813 1,802,813 1
Auditing Problems – Investments and PPE
Lord Gen A. Rilloraza, CPA
Requirements: 1. What is the correct cost of the land? 2. What is the correct cost of the building? 3. What is the correct depreciation expense for 2017? 4. How much is the overstatement(understatement) in the 2017 net income?
On April 2, 2017, the entity purchased another Machine (Machine C) for production. The purchase price is P800,000, with no residual value. The estimated useful life is 12 years, and the depreciation method is SYD.
PROBLEM 3 You are currently auditing the December 31, 2017 financial statements of one of your continuing clients, Lee Bags Company, a manufacturer of different kinds of bags. In auditing their PPE, you reviewed the previous year’s working papers for information relevant to your current audit. The information are as follows: Machine Machine Land Building Equipment A B Cost 2,400,000 1,500,000 750,000 300,000 600,000 Accumulated Depreciation 0 (397,500) (351,419) (151,078) (343,750) Carrying Value, 12/31/16
2,400,000
1,102,500
398,581
148,922
256,250
Acquisition Date Estimated Useful Life from acquisition date Residual value
10/08/10
01/02/11
01/02/11
10/02/11
03/30/13
n/a n/a
20 175,000
15 50,000
10 65,000
8 100,000
StraightLine
150% declining balance
Output method
SYD
Depreciation method
n/a
The estimated output of Machine B, which is assumed to be even throughout the year per period, is presented below: Year Output in units 1 18,500 2 17,000 3 16,550 4 14,900 5 14,500 6 13,900 7 12,850 8 11,000 9 8,000 10 4,900 Total
132,100
Requirements: 1. What is the total depreciation expense for the period? 2. What is the carrying value of the following at the end of 2017: a. Land b. Building c. Machine A d. Machine B e. Machine C f. Equipment 3. Suppose that the entity decided that the straight-line method is more appropriate for depreciating the machines starting 2017, and changed the depreciation method of all of its machines (applied also to the newly purchased Machine C), what is the total depreciation expense for the period? 4. In relation to requirement no. 3, what is the carrying value of PPE that should be presented in the statement of financial position as of December 31, 2017? PROBLEM 4 ABCDEF Corporation, your audit client, presented the following schedules of expenditures for 2017 related to its PPE: ABCDEF Company Schedule of PPE Additions For the period ended December 31, 2017 Additions to Building: Repainting of Rooms 100A, 100B, and 101A Replacement of broken tiles Upgrade of electrical wiring systems for the installation of security equipment Cost of renovating the 5th floor Total additions to Building
280,000 1,200,000 1,703,000
Additions to Machinery and Equipment: Acquisition cost of new machine Installation costs Service contracts Replacement of minor gears Total additions to machinery and equipment
560,000 30,000 10,000 8,500 608,500
80,000 143,000
2
Auditing Problems – Investments and PPE Total Additions
Lord Gen A. Rilloraza, CPA 2,311,500
During the year, your audit client reinvested the unused proceeds every start of the month for a 0.75% monthly interest, starting January. The estimated useful life of the building is 20 years with no residual value. The entity used the straight-line method of depreciating the building.
ABCDEF Company Repairs and Maintenance Expense For the period ended December 31, 2017 Installation of storm windows Replacement of major components of Equipment AA Rearrangement costs of machinery and equipment for efficiency in production Cost of installing additional cabinets and cupboards which are added permanently as part of the building
1,200,000
Repairs and maintenance expense
2,840,000
600,000 490,000
550,000
Requirements: 1. How much from the items given shall be capitalized to Building? 2. How much from the items given shall be capitalized to Machinery and Equipment? 3. How much from the items given shall be expensed? PROBLEM 5 Your audit client, See Ben Eleven Inc., decided to construct a building on 2017. The construction started on March 1, 2017, and the building was completed by the end of November of 2017. The entity was able to occupy the said structure by the start of December of the same year. In anticipation of the construction, the entity obtained a 3-year loan from PN Bank on January 4, 2017 exclusively for the construction of the new building. The principal amount of the loan is P20,000,000, with stated interest of 10% payable every December 31. See Ben Eleven made the following payments in the construction of the building: Date Amount March 1, 2017 4,000,000 April 30, 2017 1,600,000 July 31, 2017 800,000 September 1, 2017 11,000,000 October 1, 2017 1,900,000 November 30, 2017 500,000
Requirements: 1. How much is the capitalizable borrowing cost? 2. How much is the interest income for the year? 3. How much is the interest expense for the year? 4. What is the total initial cost of the building? 5. What is the carrying value of the building as of December 31, 2017? PROBLEM 6 Big Stop Corporation decided to expand and build a new manufacturing site in 2017. The entity has three outstanding loans as of December 31, 2016, as follows:
P25,000,000 loan from PI Bank; 10% annual interest; due December 31, 2018. P30,000,000 loan from PN Bank; 11% annual interest; due December 31, 2020. P15,000,000 loan from DO Bank; 8.5% annual interest; due December 31, 2020.
Big Stop decided to use the cash financed by the general borrowings, and not to obtain additional loans for the construction. The construction started on January 5, 2017, and ended on December 31, 2017. Presented below is the schedule of payments made by the entity during the construction: Date Amount January 5, 2017 2,400,000 April 2, 2017 4,800,000 June 1, 2017 5,500,000 August 31, 2017 8,400,000 September 30, 2017 900,000 December 1, 2017 1,200,000 December 31, 2017 450,000 Requirements: 1. How much is the capitalizable borrowing cost? 2. How much is the interest expense for the period? 3. What is the initial cost of the building?
3
Auditing Problems – Investments and PPE PROBLEM 7 Deo Durant Company, an entity organized in early 2008, has been renting a building for their operations. The entity decided to construct their own building to be occupied by the start of 2018, in anticipation of the expiration of their lease contract on December 31, 2017. The construction started on January 2, 2017. The building was completed on December 30, 2017, and was occupied by January 2, 2018. Before the construction, there are several outstanding borrowings for general purposes. Included in the bank loans are as follows:
P12,000,000 loan from PN Bank; 9% annual interest; due December 31, 2020. P15,000,000 loan from PI Bank; 12% annual interest; due December 31, 2021.
However, the entity estimated that the current funding is not enough, and decided to obtain an additional loan specifically for the construction of the building. The said loan was obtained from PB Bank on January 1, 2017. The principal amount is P15,000,000, with an annual interest of 10% payable every December 31. The loan is due on December 31, 2019. The schedule of payments for the construction is presented below: Date Amount January 02, 2017 5,000,000 April 01, 2017 8,400,000 July 01, 2017 4,000,000 August 31, 2017 9,900,000 October 30, 2017 3,870,000 December 31, 2017 1,000,000 Requirements: 1. How much is the capitalizable borrowing cost? 2. How much is the interest expense for 2017? 3. What is the initial cost of the building? PROBLEM 8 Yoyo Company purchased an equipment on January 1, 2015 for P15,000,000; the estimated useful life is 10 years. The entity is using the revaluation model in accounting for this class of PPE after its initial recognition.
Lord Gen A. Rilloraza, CPA
Requirements: 1. What is the carrying value of the equipment on December 31, 2016 after revaluation? 2. What is the balance of revaluation surplus on December 31, 2016 after revaluation? 3. How much is the depreciation expense for 2017? 4. What is the carrying value of the equipment on December 31, 2017? 5. Assuming that the company uses the Piecemeal Basis of transferring revaluation surplus to retained earnings, what is the balance of revaluation surplus as of December 31, 2017? 6. Suppose that the entity sold the PPE on July 1, 2018 for P16,000,000, how much is the gain or loss on disposal? 7. In relation to requirement no. 6, how much revaluation surplus is transferred to retained earnings as a lump-sum? PROBLEM 9 Punch Co. purchased an equipment last January 2, 2015 for the production of the main product of the entity. The purchase price of the equipment is P10,000,000. The estimated useful life is 10 years, and the residual value is P1,000,000. The company uses the straightline method. During 2017, Jab Company, the direct competitor of Punch, developed a new product designed as a way better substitute of the product produced by Punch. By the end of 2017, Jab unveiled its new product, and the perception of the public was positive. Because of this, Punch assessed its equipment to be impaired. On December 31, 2017, the equipment’s remaining useful life is reduced to 4 years, with a new residual value of P300,000. On this date, the fair value of the equipment is P1,800,000, with an estimated cost to sell at P50,000. The equipment is still estimated to generate net cash inflow to the entity by the end of 2018, 2019, 2020, and 2021 for P500,000, P480,000, P450,000, and P350,000, respectively. The prevailing discount rate by the end of 2017 is 8%. Requirements: 1. What is the value in use of the equipment? 2. How much is the recoverable amount? 3. How much is the impairment loss to be recognized in 2017? 4. What is the carrying value of the equipment on December 31, 2017, after the impairment? 5. How much is the depreciation expense for 2018? 6. What is the carrying value of the equipment on December 31, 2018?
Answer the following requirements under the two (2) cases, as follows: Case 1 – On December 31, 2016, the equipment was appraised as having a gross replacement cost of P18,000,000. Case 2 – On December 31, 2016, the fair market value of the equipment is P18,000,000. 4
Lord Gen A. Rilloraza, CPA
PPE PROBLEM 1 You were engaged by Honor Inc., a company organized at the beginning of January 2017, to audit their financial statements as of and for the period ended December 31, 2017. The entity incurred all of the following transactions related to Property, Plant and Equipment during the first half of January: Transaction Cost Recorded as Land Purchase price of land 10,540,000 Expense Fees for registration and transfer of the title of the land 80,000 Expense Demolition cost of old building 250,000 Special assessment for public roadways and other government projects Construction permit fee Architect's fees Excavation costs Cost of constructing the building Cost of temporary quarters Cost of constructing pavements and parking lot (this is not part of the blueprint of the building) Cost of constructing a permanent fence after the completion of the construction of the building Purchase price of machineries and equipment to be used in the normal operations of the entity Freight charges on the machineries and equipment Insurance costs during the delivery of the machineries and equipment Discount on early payment for the purchase of machineries and equipment; the discount was not taken Installation costs of the machineries and equipment
100,000 75,000 350,000 500,000 35,000,000 140,000
Land Imp. Expense Building Land Building Land Imp.
950,000
Land Imp.
480,000
Building
2,500,000 150,000 100,000
25,000 95,000
Mach. & Eqt. Expense Expense
Expense
Based from your audit procedures, you were able to ascertain the following: The entity received proceeds totalling to P45,000 as income. Further investigation revealed that the proceeds came from the initial testing of the equipment. During the construction of the building, an empty space was used as a parking space. The entity earned P144,500 from this activity. This amount was recorded as an income. The estimated useful life of each of the accounts under PPE are as follows: o Building – 50 years o Machineries and equipment – 20 years o Land Improvements – 20 years
The building’s residual value is P500,000 The entity applied the straight-line method in depreciating their depreciable assets.
Requirements: 1. What is the correct initial cost of the land? 2. What is the correct initial cost of the building? 3. What is the correct initial cost of land improvements? 4. What is the correct initial cost of machineries and equipment? 5. What is the correct carrying value of Property, Plant and Equipment as of December 31, 2017? 6. How much is the overstatement(understatement) on the 2017 net income of the entity? PROBLEM 2 Pinoy Foods Corporation purchased a land and building on April 1, 2017 for a lump-sum amount of P75,000,000. The fair market values of the land and the building on the date of acquisition are P24,000,000 and P48,000,000, respectively. The following transactions related to the land and building also happened during the year: Broker’s fees were paid for the properties acquired, P75,000. Real property taxes for the whole year total to P120,000. Option payments totalling to P190,000 were paid; P30,000 pertains to the property acquired. The building has an estimated useful life of 20 years, with no salvage value. The entries prepared by the entity related to the properties are as follows: Land 24,000,000 Building 48,000,000 Loss on purchase of properties 3,000,000 Cash Miscellaneous expense Cash Building Cash Real property tax expense Cash Depreciation expense Accumulated depreciation - building
75,000,000
190,000 190,000 75,000 75,000 120,000 120,000 1,802,813 1,802,813 1
Auditing Problems – Investments and PPE
Lord Gen A. Rilloraza, CPA
Requirements: 1. What is the correct cost of the land? 2. What is the correct cost of the building? 3. What is the correct depreciation expense for 2017? 4. How much is the overstatement(understatement) in the 2017 net income?
On April 2, 2017, the entity purchased another Machine (Machine C) for production. The purchase price is P800,000, with no residual value. The estimated useful life is 12 years, and the depreciation method is SYD.
PROBLEM 3 You are currently auditing the December 31, 2017 financial statements of one of your continuing clients, Lee Bags Company, a manufacturer of different kinds of bags. In auditing their PPE, you reviewed the previous year’s working papers for information relevant to your current audit. The information are as follows: Machine Machine Land Building Equipment A B Cost 2,400,000 1,500,000 750,000 300,000 600,000 Accumulated Depreciation 0 (397,500) (351,419) (151,078) (343,750) Carrying Value, 12/31/16
2,400,000
1,102,500
398,581
148,922
256,250
Acquisition Date Estimated Useful Life from acquisition date Residual value
10/08/10
01/02/11
01/02/11
10/02/11
03/30/13
n/a n/a
20 175,000
15 50,000
10 65,000
8 100,000
StraightLine
150% declining balance
Output method
SYD
Depreciation method
n/a
The estimated output of Machine B, which is assumed to be even throughout the year per period, is presented below: Year Output in units 1 18,500 2 17,000 3 16,550 4 14,900 5 14,500 6 13,900 7 12,850 8 11,000 9 8,000 10 4,900 Total
132,100
Requirements: 1. What is the total depreciation expense for the period? 2. What is the carrying value of the following at the end of 2017: a. Land b. Building c. Machine A d. Machine B e. Machine C f. Equipment 3. Suppose that the entity decided that the straight-line method is more appropriate for depreciating the machines starting 2017, and changed the depreciation method of all of its machines (applied also to the newly purchased Machine C), what is the total depreciation expense for the period? 4. In relation to requirement no. 3, what is the carrying value of PPE that should be presented in the statement of financial position as of December 31, 2017? PROBLEM 4 ABCDEF Corporation, your audit client, presented the following schedules of expenditures for 2017 related to its PPE: ABCDEF Company Schedule of PPE Additions For the period ended December 31, 2017 Additions to Building: Repainting of Rooms 100A, 100B, and 101A Replacement of broken tiles Upgrade of electrical wiring systems for the installation of security equipment Cost of renovating the 5th floor Total additions to Building
280,000 1,200,000 1,703,000
Additions to Machinery and Equipment: Acquisition cost of new machine Installation costs Service contracts Replacement of minor gears Total additions to machinery and equipment
560,000 30,000 10,000 8,500 608,500
80,000 143,000
2
Auditing Problems – Investments and PPE Total Additions
Lord Gen A. Rilloraza, CPA 2,311,500
During the year, your audit client reinvested the unused proceeds every start of the month for a 0.75% monthly interest, starting January. The estimated useful life of the building is 20 years with no residual value. The entity used the straight-line method of depreciating the building.
ABCDEF Company Repairs and Maintenance Expense For the period ended December 31, 2017 Installation of storm windows Replacement of major components of Equipment AA Rearrangement costs of machinery and equipment for efficiency in production Cost of installing additional cabinets and cupboards which are added permanently as part of the building
1,200,000
Repairs and maintenance expense
2,840,000
600,000 490,000
550,000
Requirements: 1. How much from the items given shall be capitalized to Building? 2. How much from the items given shall be capitalized to Machinery and Equipment? 3. How much from the items given shall be expensed? PROBLEM 5 Your audit client, See Ben Eleven Inc., decided to construct a building on 2017. The construction started on March 1, 2017, and the building was completed by the end of November of 2017. The entity was able to occupy the said structure by the start of December of the same year. In anticipation of the construction, the entity obtained a 3-year loan from PN Bank on January 4, 2017 exclusively for the construction of the new building. The principal amount of the loan is P20,000,000, with stated interest of 10% payable every December 31. See Ben Eleven made the following payments in the construction of the building: Date Amount March 1, 2017 4,000,000 April 30, 2017 1,600,000 July 31, 2017 800,000 September 1, 2017 11,000,000 October 1, 2017 1,900,000 November 30, 2017 500,000
Requirements: 1. How much is the capitalizable borrowing cost? 2. How much is the interest income for the year? 3. How much is the interest expense for the year? 4. What is the total initial cost of the building? 5. What is the carrying value of the building as of December 31, 2017? PROBLEM 6 Big Stop Corporation decided to expand and build a new manufacturing site in 2017. The entity has three outstanding loans as of December 31, 2016, as follows:
P25,000,000 loan from PI Bank; 10% annual interest; due December 31, 2018. P30,000,000 loan from PN Bank; 11% annual interest; due December 31, 2020. P15,000,000 loan from DO Bank; 8.5% annual interest; due December 31, 2020.
Big Stop decided to use the cash financed by the general borrowings, and not to obtain additional loans for the construction. The construction started on January 5, 2017, and ended on December 31, 2017. Presented below is the schedule of payments made by the entity during the construction: Date Amount January 5, 2017 2,400,000 April 2, 2017 4,800,000 June 1, 2017 5,500,000 August 31, 2017 8,400,000 September 30, 2017 900,000 December 1, 2017 1,200,000 December 31, 2017 450,000 Requirements: 1. How much is the capitalizable borrowing cost? 2. How much is the interest expense for the period? 3. What is the initial cost of the building?
3
Auditing Problems – Investments and PPE PROBLEM 7 Deo Durant Company, an entity organized in early 2008, has been renting a building for their operations. The entity decided to construct their own building to be occupied by the start of 2018, in anticipation of the expiration of their lease contract on December 31, 2017. The construction started on January 2, 2017. The building was completed on December 30, 2017, and was occupied by January 2, 2018. Before the construction, there are several outstanding borrowings for general purposes. Included in the bank loans are as follows:
P12,000,000 loan from PN Bank; 9% annual interest; due December 31, 2020. P15,000,000 loan from PI Bank; 12% annual interest; due December 31, 2021.
However, the entity estimated that the current funding is not enough, and decided to obtain an additional loan specifically for the construction of the building. The said loan was obtained from PB Bank on January 1, 2017. The principal amount is P15,000,000, with an annual interest of 10% payable every December 31. The loan is due on December 31, 2019. The schedule of payments for the construction is presented below: Date Amount January 02, 2017 5,000,000 April 01, 2017 8,400,000 July 01, 2017 4,000,000 August 31, 2017 9,900,000 October 30, 2017 3,870,000 December 31, 2017 1,000,000 Requirements: 1. How much is the capitalizable borrowing cost? 2. How much is the interest expense for 2017? 3. What is the initial cost of the building? PROBLEM 8 Yoyo Company purchased an equipment on January 1, 2015 for P15,000,000; the estimated useful life is 10 years. The entity is using the revaluation model in accounting for this class of PPE after its initial recognition.
Lord Gen A. Rilloraza, CPA
Requirements: 1. What is the carrying value of the equipment on December 31, 2016 after revaluation? 2. What is the balance of revaluation surplus on December 31, 2016 after revaluation? 3. How much is the depreciation expense for 2017? 4. What is the carrying value of the equipment on December 31, 2017? 5. Assuming that the company uses the Piecemeal Basis of transferring revaluation surplus to retained earnings, what is the balance of revaluation surplus as of December 31, 2017? 6. Suppose that the entity sold the PPE on July 1, 2018 for P16,000,000, how much is the gain or loss on disposal? 7. In relation to requirement no. 6, how much revaluation surplus is transferred to retained earnings as a lump-sum? PROBLEM 9 Punch Co. purchased an equipment last January 2, 2015 for the production of the main product of the entity. The purchase price of the equipment is P10,000,000. The estimated useful life is 10 years, and the residual value is P1,000,000. The company uses the straightline method. During 2017, Jab Company, the direct competitor of Punch, developed a new product designed as a way better substitute of the product produced by Punch. By the end of 2017, Jab unveiled its new product, and the perception of the public was positive. Because of this, Punch assessed its equipment to be impaired. On December 31, 2017, the equipment’s remaining useful life is reduced to 4 years, with a new residual value of P300,000. On this date, the fair value of the equipment is P1,800,000, with an estimated cost to sell at P50,000. The equipment is still estimated to generate net cash inflow to the entity by the end of 2018, 2019, 2020, and 2021 for P500,000, P480,000, P450,000, and P350,000, respectively. The prevailing discount rate by the end of 2017 is 8%. Requirements: 1. What is the value in use of the equipment? 2. How much is the recoverable amount? 3. How much is the impairment loss to be recognized in 2017? 4. What is the carrying value of the equipment on December 31, 2017, after the impairment? 5. How much is the depreciation expense for 2018? 6. What is the carrying value of the equipment on December 31, 2018?
Answer the following requirements under the two (2) cases, as follows: Case 1 – On December 31, 2016, the equipment was appraised as having a gross replacement cost of P18,000,000. Case 2 – On December 31, 2016, the fair market value of the equipment is P18,000,000. 4
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