Simon Fraser University, Faculty of Business Administration

Department of Accounting

SAMPLE MIDTERM EXAM (BUS 321)

Instructor: Scott MacEachern Maximum: 120 marks Time: 120 minutes

Student: I.D. Number:

1. Read each question carefully before you attempt to answer it.

2. Be sure to state any assumptions that you find necessary and show ALL CALCULATIONS AND
EXPLANATIONS to facilitate the awarding of marks. Follow the Canadian GAAP where
appropriate.

3. The exam has 18_ pages including this cover. PLEASE ENSURE THAT YOU HAVE A COMPLETE
EXAMINATION. It is your responsibility to ensure that all pages are turned in at the end of the
examination and that they are stapled together in page number order.

4. Answer each question in the space provided. Work shown outside of the provided space will not
be marked.

5. Any programmable calculator must be reset prior to this examination. PV formulas are provided
below and tables at the end:

1
1  1 
(1  i ) n 1 1  (1  i )t  FV
Annuity factor: Future value factor: PV  C  
(1  i) n  (1  i )
t
i  i
 
MARK ALLOCATION:

Section Marks available Marks awarded

1 20
2 25
3 25
4 20
5 25
Total 115
SECTION 1: Current liabilities

[11 Marks]
Alaska Computer Company sells computers for $2,000 each, which includes a 3-year warranty that requires the
company to perform periodic services and to replace defective parts. During 2017, Alaska sold 500 computers on
account. Based on past experience, the company has estimated the total 3-year warranty costs at $80 for parts
and $100 for labour. (Assume sales all occur at December 31, 2017.) In 2018, Alaska Computer Company incurred
actual warranty costs relative to 2014 computer sales of $10,000 for parts and $12,000 for labour.

Using the expense warranty approach, prepare the entries to reflect the above transactions (accrual method) for
2017 and 2018. What is the ending balance under current liabilities in the 2017 statement of financial position?

https://www.coursehero.com/file/8037127/ElizabethHampton-ACG-3113-1-week8/

[9 Marks] Discuss the proper accounting treatment, including any required disclosures, for each independent
situation. Give the rationale for your answers. Assume all companies involved use IFRS.
In August, 2017, a worker was injured in the factory in an
accident partially the result of his own negligence. The
worker has sued his employer, Prince Corp., for $500,000.
Prince’s legal counsel believes it is possible that the outcome
of the suit will be unfavourable and that the settlement
would cost the company from $150,000 to $400,000.

On October 4, 2017, a lawsuit for breach of contract seeking

damages of $2,400,000 was filed by an author against
Queen Corp. Queen's legal counsel believes that an
unfavourable outcome is more likely than not. A reliable
measurement of the award to the plaintiff is between
$600,000 and $1,800,000.

King Ltd. is involved in a pending court case. King's lawyers

believe it is likely that King will be awarded damages of
$700,000.
SECTION 2: Non-current liabilities

[20 Marks] On July 1, 2014, Davis Corp. issued $800,000 par value, 10%, 10-year bonds, with interest payable
semi-annually on January 1 and July 1. The bonds were issued for $908,722. On January 2, 2016, Davis offered to
buy back the bonds at 103. Forty percent of the bondholders accepted the offer. Davis uses the effective-interest
method of amortizing premium or discount.

Instructions:
a) Prepare the journal entry to record the bond issuance.
b) Prepare the adjusting entry at December 31, 2014, the end of the fiscal year.
c) Prepare the entry for the interest payment on January 1, 2015.
d) Prepare the entry to record the retirement of the bonds on January 2, 2016.

[5 Marks] What are the general rules for measuring and recognizing gain or loss by the debtor on a settlement of
troubled debt, which includes the transfer of non-cash assets?
SECTION 3: Shareholders’ Equity

[12 Marks]
Sudan Enterprises Inc. reported the following shareholder’s equity at December 31, 2016:

Contributed Capital
Preferred shares, $1, no par value, 100,000 shares authorized, cumulative,
callable at $107 plus dividends in arrears;
issued and outstanding, 20,000 shares.................................................................. $2,040,000
Common shares, no par, 100,000 shares authorized,
80,000 issued and outstanding .............................................................................. 640,000
Contributed surplus (retirement of common shares) ................................................... 120,000
Retained earnings .......................................................................................................... 1,600,000

The following transactions took place in 2017:

Jan 20 Redeemed 1,000 preferred shares at the call price. There were no dividends in arrears.
Jan 28 Declared $100,000 in dividends. Use separate accounts for each class of dividends.
Feb 28 Retired 8,000 common shares at $12 per share.
Mar 2 Declared and distributed a 3% common stock dividend. The market value of the shares at that time
was $11.50.

Instructions: Prepare journal entries for the 2017 transactions.

[10 Marks]
Togo Inc. has the following shares outstanding:

40,000, $0.80, no par value preferred shares $400,000

60,000 no par value common shares $600,000

All shares were sold for $100 each. No dividends have been declared since December 31, 2015. It is now
December 31, 2017, and the board of directors wants to distribute $204,000 in dividends.

Instructions: Calculate how much the preferred and common shareholders will receive under each of the
following assumptions:
a) The preferred is cumulative and non-participating.
b) The preferred is cumulative and fully participating.

[3 Marks]
Indicate the principal effects of a stock dividend versus a stock split as they affect the issuing corporation.
Respond in the spaces as follows: "C" for change; "NC" for no change.

Stock dividend Stock split

Number of shares outstanding _________ _________
Total shareholders’ equity _________ _________
Retained earnings _________ _________
SECTION 4: Complex Financial Instruments

[10 Marks] For each of the unrelated situations described below, prepare the entries required to record the
transactions.
1. Beta Inc. issues 10% convertible bonds, par $1,000,000, at 97. The investment banker indicates that if the
bonds had not been convertible they would have sold at 94. Use the residual method.
2. Gamma Ltd. issues $2,000,000 par value, 8% bonds. To help the sale, detachable stock warrants are issued
at the rate of ten warrants for each $1,000 bond sold. It is estimated that the value of the bonds without the
warrants is $1,974,000 and the value of the warrants is $126,000. The bonds with the warrants sold at 101.
Use the residual method.
[10 Marks]
Prepare the necessary entries from January 1, 2017 to February 1, 2019 for the following events. If no entry is
needed, write "No entry necessary."
1. On January 1, 2017, the shareholders of Musetta Inc. adopted a stock option plan for its top executives,
where each could receive rights to purchase up to 3,000 common shares at $40 per share. At this date, the
shares were trading for $32 per share.
2. On February 1, 2017, options were granted to five executives to purchase 3,000 shares each. The options
were non-transferable and the executive had to remain an employee of the company to exercise the option.
The options expire on February 1, 2019. It is assumed that the options were for services performed equally
in 2017 and 2018. The Black-Scholes option pricing model determined total compensation expense to be
$390,000.
3. December 31, 2017 year-end.
4. December 31, 2018 year-end.
5. On February 1, 2019, four executives exercised their options. The fifth executive chose not to exercise her
options, which therefore were forfeited.
SECTION 5: Earnings per share

[25 Marks]
The following data are presented by Quentin Corp. for calendar 2017

Net income $4,500,000

Common shares outstanding, 1,000,000 shares
10%, cumulative preferred shares, convertible into 120,000 common shares $1,600,000
8% convertible bonds; convertible into 105,000 common shares $7,500,000
360,000 call options exercisable at $25 per share

Additional information
1. The common and preferred shares and the convertible bonds were outstanding from the beginning of the
year. The income tax rate for 2017 is 30%.
2. In 2017, a $500,000 dividend was declared and distributed; however, no dividends were declared in 2016.
3. The average market price of the common shares in 2017 was $30. The stock price was $27 on January 1,
2017, and $35 on December 31, 2017.
4. The convertible bonds were sold at par.

Instructions: a) Calculate basic EPS, b) Calculate diluted EPS, and c) Briefly discuss the usefulness of the EPS
measure in general. What is the additional importance of reporting diluted EPS?

E13-1, E13-4, E13-19, E13-21, E13-23, P13-9, P13-14

E14-16, E14-18, E14-24, E14-25, E14-29, P14-3, P14-5, P14-13, P14-14

E15-2, E15-6, E15-11, E15-14, P15-2, P15-9

BE16-22, E16-2, E16-8, E16-9, E16-16, P16-1, P16-5, P16-9, P16-10

E17-5, E17-8, E17-14, P17-3, P17-8, P17-10

Formula Sheet
Alaska Computer Company sells computers for $2,000 each, which includes a 3-
year warranty that requires the company to perform periodic services and to
replace defective parts. During 2014, Alaska sold 500 computers on account.
Based on past experience, the company has estimated the total 3-year warranty
costs at $80 for parts and $100 for labour. (Assume sales all occur at December 31,
2014.)In 2015, Alaska Computer Company incurred actual warranty costs relative
to 2014 computer sales of $10,000 for parts and $12,000 for
labour.Instructionsa.Using the expense warranty approach, prepare the entries to
reflect the above transactions (accrual method) for 2014 and 2015.b.Using the cash
basis method, what are the Warranty Expense balances for 2014 and 2015?c.The
transactions of part a. create what balance under current liabilities in the 2014
statement of financial position?Solutionsa.2014Accounts Receivable1,000,000
Sales.......................................................................... ................1,000,000 Warranty
Expense 500 x ($80 + $100) 90,000 Estimated Liability Under
Warranties.......................................90,000 2015Estimated Liability Under
Warranties 22,000
Inventory...................................................................................10,000 Accrued
Payroll.........................................................................12,000 b.2014 $0 2015
$22,000 c.2014Current Liabilities—Estimated Liability Under Warranties $30,000

(The remainder of the $90,000 liability is a long-term liability .