Chapter 6: Audit of Property, Plant and Equipment

CHAPTER 6-PROBLEM 1:
1. The audit procedure of analyzing the repairs and maintenance accounts is designed primarily to provide evidence in support of
the audit proposition that all
A. Expenditures for fixed assets have been recorded in the proper period.
B. Capital expenditures have been properly authorized.
C. Noncapitalizable expenditures have been properly expensed.
D. Expenditures for fixed assets have been capitalized.

2. The audit procedure of analyzing the PPE additions for the year is designed primarily to provide evidence of which financial
statement assertion over PPE
A. Valuation and Rights
B. Completeness and Valuation
C. Existence and Rights
D. Existence and Valuation

3. When an entity has few property and equipment transactions during the year, the continuing auditor usually carries out
A. A complete review of the related internal controls and performs test of the controls on which the entity relies.
B. A complete review of the related internal controls and performs analytical review tests to verify current year additions to
property and equipment.
C. A preliminary review of the related internal controls and performs a thorough examination of the balances at the beginning
of the year.
D. A preliminary review of the related internal controls and performs extensive tests of current year property and equipment
transactions.

4. An auditor may conclude that depreciation charges are overstated if he or she notes
A. Large amounts of fully depreciated assets.
B. Continuous trade-ins of relatively new assets.
C. Excessive recurring losses on retired assets.
D. Insured values greatly in excess of book values.

5. In violation of company policy, Lilac Company erroneously capitalized the cost of painting its warehouse. The auditor examining
Lilac’s financial statements would be most likely to detect this when
A. Discussing capitalization policies with Lilac’s controller.
B. Examining maintenance expense accounts.
C. Noting, while observing the physical inventory being taken, that the warehouse had been painted.
D. Examining the construction work orders supporting items capitalized during the year.

6. Equipment acquisitions that are misclassified as maintenance expense most likely would be detected by an internal control that
provides for
A. Segregation of duties of employees in the accounts payable department.
B. Independent verification of invoices for disbursements recorded as equipment acquisitions.
C. Investigation of variances within a formal budgeting system.
D. Authorization by the board of directors of significant equipment acquisitions.

7. Analysis of which account is least likely to reveal evidence relating to recorded retirement of equipment?
A. Accumulated depreciation.
B. Insurance expense.
C. Property, plant and equipment.
D. Purchase returns and allowances.

8. Which of the following explanations most likely would satisfy an auditor who questions management about significant debits to
the accumulated depreciation accounts?
A. The estimated remaining useful lives of plant assets were revised upward.
B. Plant assets were retired during the year.
C. The prior year’s depreciation expense was erroneously understated.
D. Overhead allocations were revised at year-end.

9. In testing for unrecorded retirements of equipment, an auditor most likely would:

A. Select items of equipment from the accounting records and then locate them during the plant tour.
B. Compare depreciation journal entries with similar prior years entries in search of fully depreciated equipment.
C. Inspect items of equipment observed during the plant tour and then trace them to the equipment subsidiary ledger.
D. Scan the general journal for unusual equipment additions and excessive debits to repairs and maintenance accounts.

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10. The auditor is most likely to seek information from the plant manager with respect to the:
A. Adequacy of the provision for uncollectible accounts.
B. Appropriateness of physical inventory observation procedures.
C. Existence of obsolete machinery.
D. Deferral of procurement of certain necessary insurance coverage.

11. In auditing plant and equipment balances, an auditor requests a schedule of repairs and maintenance expense for the period.
This procedure is designed to obtain evidence concerning management assertions of
A. Existence
B. Completeness
C. Valuation
D. Rights and Obligation

12. Which of the following procedures would an auditor most likely perform in obtaining evidence about propriety of PPE additions?
A. Inspecting documents and physically examining assets.
B. Recomputing calculations and obtaining written management representations.
C. Observing operating activities and comparing balances to prior period balances.
D. Confirming ownership and corroborating transactions through inquiries with the management.

13. Which of the following procedures would an auditor most likely perform in obtaining evidence about valuation of PPE additions?
A. Inspecting documents and physically examining assets.
B. Recomputing the depreciation based on the company’s depreciation policy.
C. Gathering evidence about the reasonableness of the depreciation policy.
D. Confirming ownership and corroborating transactions through inquiries with the management.

14. In testing the reasonableness of the client’s depreciation policy, which of the following will be the least likely source of evidence?
A. Industry practice in depreciating and amortizing PPE.
B. Schedule of depreciation computation in the past years with prior years PPE roll forward analysis.
C. Subsequent events.
D. Confirming ownership and corroborating transactions through inquiries with the management.

15. Which of the following audit procedures is a test of control over non-current assets?
A. Agreeing the totals on the non-current asset register to the general ledger.
B. Performing a proof in total for depreciation.
C. Inspecting purchase orders for authorizing signatures.
D. Inquiring of management their plans for future capital expenditures.

16. Which of the following audit procedures is valid test for the existence of tangible non-current asset?
A. Inspecting title deeds to buildings.
B. Agreeing figures on the valuation certificate for a building to the general ledger.
C. Agreeing a sample of assets selected by physical inspection back to the non-current asset register.
D. Physically inspecting a sample of assets selected from the non-current asset register.

17. Which of the following techniques for collecting audit evidence is generally accepted to be the most efficient from the perspective
of the auditor when testing for the completeness and accuracy of the depreciation charge for the year?
A. Recalculation.
B. Reperformance.
C. Analytical procedures.
D. Confirmation.

18. Which of the following would provide the most persuasive evidence of the company’s ownership of a freehold office building?
A. Inspection of the purchase documentation.
B. Inspection of recent expense invoices for extensive repairs to the building, paid for by the company.
C. Inspection of the title of deeds to the building.
D. Inspection of directors’ board minute confirming ownership of the building.

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CHAPTER 6-PROBLEM 2:
Bacolod Inc. incurred the following expenditures in 2014:

Purchase of land P15,600,000

Land survey 208,000
Fees for search of title for land 24,000
Building construction permit fee 140,000
Temporary quarters for construction workers 430,000
Payments to tenants of the old building 184,000
Cost of razing the old building 940,000
Excavation of the land 400,000
Special assessment of the government for road projects 80,000
Dividends that should have been earned had the money used for
construction been invested in the equity instruments 200,000
Damages awarded for injuries sustained in construction where no
insurance is carried 336,000
Cost of construction 78,000,000
Cost of paving parking lot, driveway and sidewalks 1,600,000
Profit on construction as the difference between the appraised
value of the asset after construction and actual costs incurred 1,900,000
List price of machinery and equipment purchased 4,567,000
Trade discount taken on the machinery and equipment purchased 127,000
Cost of freight and handling 50,000
Cost of testing the equipment 125,000

Additional information:
 A portion of the building site had been temporarily used by Bacolod to operate a car park while the building was being
constructed. A total of P650,000 was earned by Bacolod from this incidental activity.
 Proceeds from sale of produce from the testing done on the machinery and equipment amounted to P65,000.

Requirements:
1. What is the correct cost of land? 15,912,000
2. What is the correct cost of land improvements, if any? 1,600,000
3. What is the cost of the building? 80,094,000
4. What is the cost of machinery and equipment? 4,550,000

CHAPTER 6-PROBLEM 3:
Miram Company, was organized in early July of 2014. In your audit of the company’s books, you find the following land, building and
equipment account:

Account title: Land, building and equipment

July 2 Organization fees P 120,000
2 Land site and old building 1,890,000
3 Option payments 250,000
20 Broker’s fees on property acquired 110,400
July 30 Cost of remodeling the building 60,000
Aug. 29 Salaries of Executives 360,000
Sept. 1 Stock bonus to corporate promoters; 12,000
shares, P25 market value per share 300,000
Dec. 15 Real property taxes 240,000

Audit notes:

 The building acquired on July 2, 2014, had a fair value of P450,000 while the land was currently appraised at P1,800,000.
 P50,000 of the option money paid were for properties not acquired.
 The executives had no participation on the remodeling of the building.
 The property taxes were for the 2014 calendar year.

Requirements:
1. How much is the correct balance of the Land account as of December 31, 2014? 1,856,320
2. How much is the correct balance of the Building account as of December 31, 2014? 524,080
3. The net income for 2014 should be adjusted by: (950,000)

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CHAPTER 6-PROBLEM 4:
ABC Corporation started its operations at the beginning of 2014. In your audit of ABC Corporation’s financial statements the following
PPE schedule was presented to you by its accountant.
Land P10,000,000
Building 6,500,000
Equipment 6,000,000
Furniture and Fixtures 3,500,000

Audit notes:
a. The company acquired the land at the beginning of the year at a total purchase price of P10,000,000. The term of the
acquisition calls for a 20% down payment and the issuance of a 5-year non-interest bearing note for the balance. The note
is payable equally at the end of each year starting December 31, 2014. The prevailing market rate of interest on this date
was at 10%.

b. The building was constructed by XYZ constructions which cost the said construction company a total of P6.5M. The
construction started even before the commencement of operations in 2014 and was completed in time for the company’s
inception of operation at the beginning of 2014. The agreement with the said construction company calls for the issuance
of 100,000 of ABC’s own shares in exchange of the constructed building. The prevailing fair value of the shares on this date
was P70 per share.

c. Three equipment were acquired during the year by the company, separate occasions are as follows:
- Equipment A was acquired on account at the beginning of January at P2,000,000, payable three months from date of
purchase. A 10% discount on the price shall be provided if payment was made within January. Due to unavailability of
cash, the company paid the amount due to the end of the March.
- Equipment B was acquired on July 1 at a purchase price of P4,000,000. The company incurred import duties and non-
refundable taxes amounting to P250,000 which it had charged to operations. Additional installation costs were incurred
at P50,000 which were also charged to operations. The company expects to incur dismantling cost on the asset upon
retirement at P161,051. The prevailing rate of interests on this date was at 10%.
- Another Equipment (C), which was not recorded in the company’s books, was received from one of its major
stockholders on September 1. The equipment had a prevailing fair value on the same date at P1,200,000. The company
incurred legal fees in processing the donation at P100,000 which was charged to operating expense.

d. Various Furniture and Fixtures were acquired at the beginning of the year from a single supplier with the following terms
of payments:
Cash P1,000,000
3 year non-interest bearing note 2,000,000
10,000 shares at par P50 500,000

It was ascertained that the total cash price of the various furniture and fixtures was at P3,200,000.
e. Depreciation on the assets are yet to be made by year end. You have ascertained that the following depreciation policies
shall be appropriate in the circumstance:
Depreciation Method Useful Life
Building 150% Declining Balance 15 years
Equipment SYD 5 years
Furniture and Fixtures Straight Line 10 years

The salvage value of the asset was estimated at 10% of its initial cost.

Requirements:
1. Determine the depreciation expense for the following assets for 2014:
a. Building 700,000
b. Equipment A 540,000
c. Equipment B 660,000
d. Equipment C 120,000
e. Furniture and Fixture 288,000
2. Determine the correct carrying values of the following assets as of December 31, 2014:
a. Land 8,065,259
b. Building 6,300,000
c. Equipment A 1,260,000
d. Equipment B 3,740,000
e. Equipment C 1,080,000
f. Furniture and Fixture 2,912,000

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CHAPTER 6-PROBLEM 5:

CASE 1:
ABC CORP. borrowed P1,000,000 from BPI Inc. specifically to finance the construction of its building. The proceeds from the borrowing
were received on January 2, 2014 and were supported by a 5-year, 12% note payable. The construction commenced July 1, 2014 and
was substantially completed by November 30, 2014. The unused proceeds from the loan were reinvested on a monthly basis all
throughout the year to earn 5% annual interest. The following were used from the proceeds of the loan (assume at the beginning of
each months)

July P100,000
August 150,000
September 300,000
October 200,000
November 150,000

Requirements:
1. How much is the capitalizable borrowing cost? 39,792
2. What is the total interest expense to be recognized for 2014? 70,000

CASE 2:
Pan Corp. contracted Nat Inc. on January 1, 2014 to construct building for P80,000,000 on land Pan Corp. purchased a couple of years
back. The contract provides that Pan Corp. is to make five payments in 2014, with the last payment to be made upon completion. The
building was completed on December 31, 2014.

Pan Corp. made the following payments during 2014:

January 1 P8,000,000
April 1 19,000,000
July 31 24,400,000
October 1 27,600,000
December 31 14,000,000

Pan Corp. made the following arrangements with financing companies in 2014:
 12%, P34M loan dated January 1, 2014, with interest compounded quarterly. Both principal and interest are payable on
December 31, 2017. This loan related specifically to the building project.
 10%, 10-year, P24M note dated December 31, 2013, with simple interest; interest payable annually on December 31. The loan
was for general financing purposes including the partial financing of the construction.
 12%, 5-year, P28M note dated December31, 2013, with simple interest; interest payable annually on December 31. The loan
was for general financing purposes including the partial financing of the construction.

Requirements:
1. The amount of interest to be capitalized in 2014? 4,856,223
2. The amount of interest to be expensed in 2014? 5,171,077
3. The carrying value of the building as of December 31, 2014? P7,856,223

CHAPTER 6-PROBLEM 6:
At December 31, 2013, Kelson Corp.’s noncurrent operating asset and accumulated depreciation accounts had balances as follows:

Cost Accum. Dep’n Dep’n Method Life

Land P390,000
Buildings 3,600,000 796,200 150% declining 25 years
Machinery and equipment 2,325,000 588,600 Straight line 10
Delivery equipment 396,000 258,600 150% declining 5
Leasehold improvements 663,000 331,500 Straight line 8

Depreciation is computed to the nearest month and the residual values of the depreciable assets are considered immaterial.

The following transactions occurred in 2014:

a. On January 6. A facility which included a land and a building structure was acquired from Wayde Corp. for P1,800,000. The land
had a market value of P360,000.

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 b. On April 6, the construction of parking lots, streets and sidewalks were completed at the acquired facility. The company incurred
a total cost of P576,000 on this project. These expenditures had an estimated useful life of 12 years and are depreciable using
the straight-line method.
c. The leasehold improvements were completed on December 3, 2010 and had an estimated useful life of 8 years. The related
lease would have expired on December 31, 2016. During the current year however, the lessor has manifested that the lease
agreement was now renewable for an additional 5-year term. It is very likely that Kelson Corp. will be taking advantage of this
renewal option.
d. On July 1, machinery and equipment were purchased at a total invoice cost of P750,000. Additional cost of P30,000 and P90,000
for installation were incurred.
e. On August 30, Kelson purchased a new truck for P45,000.
f. On September 30, a truck with a cost of P72,000 and a carrying value of P24,300 on the date of sale was sold for P34,500.
Depreciation for the 9 month ended September 30, 2014 was P7,056.
g. On December 20, a machine with a cost of P51,000 and a carrying value of P8,925 at date of disposition was scrapped without
cash recovered.

Requirements: What are the depreciation expenses for the following:

1. Building 254,628
2. Land Improvement 36,000
3. Machinery and equipment 276,000
4. Leasehold improvement 66,300
5. Delivery equipment 43,369

CHAPTER 6-PROBLEM 7:
Information pertaining to Ganado Corporation’s property, plant and equipment for 2014 is presented below:

Account Balances at January 1, 2014

Debit Credit
Land P 150,000
Building 1,200,000
Accumulated Depreciation P 263,100
Machinery and equipment 900,000
Accumulated Depreciation 50,000
Automotive equipment 115,000
Accumulated Depreciation 84,600

Depreciation methods used and useful life

Building – 150% declining balance; 25 years
Machinery and equipment – Straight-line; 10 years
Automotive equipment – Sum-of-the-year’s-digits; 4 years

The salvage value of the assets is immaterial. Depreciation is computed to the nearest month.

Transactions during 2014 and other information:

 On January 1, 2014, Ganado purchased a new car for P10,000 cash and trade-in of a two-year-old car with a cost of P9,000
and a book value of P2,700. The new car has a cash price of P12,000; market value of trade-in is not known.
 On April 1, 2014, a machine purchased for P23,000 on April 1, 2009, was destroyed by fire. Ganado recovered P15,500 from its
insurance company.
 On July 1, 2014, machinery and equipment were purchased at a total invoice cost of P280,000; additional costs of P5,000 for
freight and P25,000 for installation were incurred.
Ganado determined that the automotive equipment comprising the P115,000 balance at January 1, 2014 would have been
depreciated at a total amount of P18,000 for the year ended December 31, 2014.

1. What is the correct depreciation expense for 2014 for the following PPE items:
a. Building P56,214
b. Machinery and equipment P103,775
c. Automotive equipment P21,000
2. What is the correct accumulated depreciation as of Dec. 31, 2014 for the ff. PPE items:
a. Building P319,314
b. Machinery and equipment P342,275
c. Automotive equipment P99,300
3. How much is the gain or loss on the machine destroyed by fire? P11,500
4. How much is the gain or loss on the trade-in transaction on January 1? (P700)

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CHAPTER 6-PROBLEM 8:
In the course of your audit of property, plant and equipment of Malik Corp. for the period ended December 31, 2014, you have decided
to review property additions to determine propriety of the items capitalized and the company’s repairs and maintenance expense accounts
to determine whether there are capitalizable costs which were expensed by the company:

MALIK CORP.
Property Additions
For the period ended December 31, 2014

Additions to Buildings:
Replacement of the old wooden roof with
a fireproof brick roof P300,000
Repainting of the plant buildings 60,000
Routinary repairs on buildings 50,000 P410,000

Additions to Equipment:
Replacement of minor gears P20,000
Replacement of retired factory equipment 500,000
Rearrangement costs of a group of factory
equipment to ensure greater efficiency in
production 120,000* 740,000
Total amount capitalized

*Comprises of moving costs amounting to P40,000 and reinstallation costs of P80,000.

MALIK CORP.
Repairs and Maintenance Expense
For the period ended December 31, 2014

Major improvements to the electrical wiring system 70,000

Service contract on office equipment 40,000
Acquisition of furniture 50,000
Storm windows and screens installation 162,000
Automatic door-opening system installation 200,000
Sealing of roof leaks in the factory 25,000
Overhead crane in the assembly department 70,000

1. How much from the above items should be capitalized to:

a. Building P732,000
b. Equipment P690,000
c. Furniture and fixture
2. How much from the above items should be expensed? P1,195,000

CHAPTER 6-PROBLEM 9:
Bonbon Company purchased a manufacturing plant building on January 2005, for P5,200,000. The building has been depreciated using
the straight-line method with 30-year useful life and at 10% residual value.

Bonbon’s manufacturing operations has experienced significant downturn for the past two years because of loss of significant portion of
the market because the competitor has introduced a more superior product than the company’s.

On December 31, 2014, Bonbon estimates that the building has a remaining useful life of 15 years, and that the net cash flows from
the use of the building will be P200,000 per year with no change in the estimated salvage value. The fair value less cost to sell of the
asset was set at P1,560,000.

The prevailing discount rate at that time was 10%.

Requirements:
1. What is the carrying value of the asset on December 31, 2014 before impairment loss testing? P3,640,000
2. What is the value in use of the asset on December 31, 2014? P1,645,700
3. What is the recoverable value on December 31, 2014? P1,645,700
4. What is the impairment loss to be recognized in 2014? P1,994,300
5. What is the depreciation expense related to the asset in 2015? P75,047

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CHAPTER 6-PROBLEM 9:

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