FINAL EXAM REVIEW

EXAM INFORMATION
• Exam is on Monday, December 19th :
• Section 006 – 10:30am – 12:30pm
• Section 003 – 1:30pm – 3:30pm
• Administered using Proctorio
• One side of 8 ½ x 11 page of notes is allowed for this exam
• On chapters 11, 12, & 17
• Worth 100 points (Short Answer)
• Best ways to study:
• Practice Problems (In-class & in chapter slides)
• Review Quizzes
• Review Slides
• Homework (On Wiley & at the end of chapters)
• Textbook
 KEY TOPICS:
CHAPTER 11 • Methods of Depreciation (Activity,
Straight-line, Accelerated)
Depreciation & • Impairment (Calculation & Journal
Impairments Entry)
Methods of Depreciation

The profession requires the method employed be “systematic and

rational.”

1. Activity method (units of use or production).

2. Straight-line method.
3. Decreasing-charge methods (accelerated)
a. Sum-of-the-years’-digits.
b. Declining-balance method.
Methods of Depreciation

Illustration—(Four Methods): Maserati Corporation purchased a new machine for its

assembly process on August 1, 2017. The cost of this machine was $150,000. The
company estimated that the machine would have a salvage value of $24,000 at the end
of its service life. Its life is estimated at 5 years and its working hours are estimated at
21,000 hours. Year-end is December 31.
Instructions: Compute the depreciation expense under the following methods.
a) Straight-line depreciation.
b) Activity method
c) Sum-of-the-years’-digits.
d) Double-declining balance.
Straight-Line Method
Depreciation Schedule
Current
Depreciable Annual Partial Year Accum.
Year Base Years Expense Year Expense Deprec.
2017 $126,000 / 5 = $25,200 × 5/12 = $ 10,500 $ 10,500
2018 126,000 / 5 = 25,200 × = 25,200 35,700
2019 126,000 / 5 = 25,200 × = 25,200 60,900
2020 126,000 / 5 = 25,200 × = 25,200 86,100
2021 126,000 / 5 = 25,200 × = 25,200 111,300
2022 126,000 / 5 = 25,200 × 7/12 = 14,700 126,000
$126,000

Journal entry:
2017 10,500
Depreciation Expense
Accumulated Depreciation 10,500
 Activity Method
Depreciation Schedule
(Assume 800 hours used in 2017)
Current
(Given) Rate per Annual Partial Year Accum.
Year Hours Hours Expense Year Expense Deprec.
2017 800 × $6 = $4,800 $4,800 $4,800
2018 × =
2019 × =
2020 × =
2021 × =
800 $4,800

Journal entry:
2017 Depreciation Expense 4,800
Accumulated Depreciation 4,800
 Sum-of-the-Years’-Digits Method
Each fraction uses the sum of the years as a denominator (5 + 4
Depreciation Schedule (7/12 = .58333) + 3 + 2 + 1 = 15). The numerator is the number of years of
estimated life remaining as of the beginning of the year.

Depreciable Annual Partial Current Year Accum.

Year Base Years Expense Year Expense Deprec.
2017 $126,000 × 5/15 = $42,000 × 5/12 = $ 17,500 $ 17,500
2018 126,000 × 4.58333/15 = 38,500 × = 38,500 56,000
2019 126,000 × 3.58333/15 = 30,100 × = 30,100 86,100
2020 126,000 × 2.58333/15 = 21,700 × = 21,700 107,800
2021 126,000 × 1.58333/15 = 13,300 × = 13,300 121,100
2022 126,000 × .58333/15 = 4,900 × = 4,900 126,000
$126,000
Journal entry:
2017 Depreciation Expense 17,500
Accumulated Depreciation 17,500
Double-Declining Balance Method
Rate = (Straight line depreciation expense / Cost less
Depreciation Schedule Salvage Value) x 2
Depreciable Rate Per Annual Partial Current Year Accum.
Year Base Year Expense Year Expense Deprec.
2017 $150,000 × 40% = $60,000 × 5/12 = $ 25,000 $ 25,000
2018 125,000 × 40% = 50,000 × = 50,000 75,000
2019 75,000 × 40% = 30,000 × = 30,000 105,000
2020 45,000 × 40% = 18,000 × = 18,000 123,000
2021 27,000 × 40% = 10,800 × Plug = 3,000 126,000
$126,000

Journal entry:
2017 Depreciation Expense 25,000
Accumulated Depreciation 25,000
Impairments

Recognizing Impairments
Write-off of long-lived assets.
Events leading to an impairment:
• A significant decrease in the fair value of an asset.
• A significant change in the manner in which an asset is used.
• A significant adverse change in legal factors or in the business climate that affects
the value of an asset.
• An accumulation of costs significantly in excess of the amount originally expected to
acquire or construct an asset.
• A projection or forecast that demonstrates continuing losses associated with an
asset.
Accounting for Impairments

Loss reported as part of

income from continuing
operations, in the
“Other expenses and
losses” section.
Impairment—Example

M. Alou Inc. has equipment that, due to changes in its use, it reviews for possible
impairment. The equipment’s carrying amount is $600,000 ($800,000 cost less
$200,000 accumulated depreciation). Alou determines the expected future net cash
flows (undiscounted) from the use of the equipment and its eventual disposal to be
$580,000. Determine whether an impairment has occurred.

Expected future cash flows $580,000

Carrying value of asset:
Cost $800,000
Accumulated depreciation − 200,000 600,000

($20,000)
Impairment
Impairment—Example

Measurement of Loss
The recoverability test indicates that the expected future net cash flows of $580,000
from the use of the asset are less than its carrying amount of $600,000. Therefore, an
impairment has occurred. Assume this asset has a fair value of $525,000. Determine
the impairment loss, if any.

Fair value of equipment $525,000

Carrying value of asset:
Cost $800,000
Accumulated depreciation (200,000) 600,000
($75,000)

Impairment Loss
Impairment—Example

Loss Journal Entry

Fair value of equipment $525,000

Carrying value of asset:
Cost $800,000
Accumulated depreciation (200,000) 600,000
($75,000)
M. Alou records the impairment loss as follows:

Loss on Impairment 75,000

Accumulated Depreciation 75,000
 KEY TOPICS:
• Purchase of Intangibles
CHAPTER 12 • Amortization
• Impairment
Intangible Assets
Intangible Assets

Amortization of Intangibles

Manner Acquired
Type of Internally Impairment
Intangible Purchased Created Amortization Test
Limited-life Capitalize Expense* Over useful life Recoverability
intangibles test and then
fair value test
Indefinite-life Capitalize Expense* Do not Fair value test
intangibles amortize only

*
Except for direct costs, such as legal costs.
Amortization of Intangible Assets - Example

Illustration: Harcott Co. incurs $180,000 in legal costs on January 1, 2020, to

successfully defend a patent. The patent’s useful life is 12 years, amortized on a
straight-line basis. Harcott records the legal fees and the amortization at the end of
2020 as follows.

Jan. 1 Patents 180,000

Cash 180,000

Dec. 31 Amortization Expense 15,000

Patents (or Accumulated Amortization) 15,000
Goodwill

Goodwill
Represents the future economic benefits arising from the other assets acquired in a
business combination that are not individually identified and separately recognized.
Only recorded when an entire business is purchased.

Goodwill is the ...

excess of cost of the purchase over the fair value of the identifiable net assets
(assets less liabilities) purchased.

Internally created goodwill should not be capitalized.

Recording Goodwill - Example

Example: Global Corporation purchased the net assets of Local Company for $300,000
on December 31, 2020. The balance sheet of Local Company just prior to acquisition is:
Recording Goodwill - Example

Example: Global Corporation purchased the net assets of Local Company for $300,000
on December 31, 2020. The value assigned to goodwill is determined as follows:

Cash $ 15,000
Receivables 10,000
Inventories 70,000
Equipment 130,000
Accounts payable (25,000)
FMV of identifiable net assets 200,000
Purchase price 300,000
Goodwill $100,000
Recording Goodwill - Example

Example: Global Corporation purchased the net assets of Local Company for $300,000
on December 31, 2020. Prepare the journal entry to record the purchase of the net
assets of Local.

Journal entry recorded by Global:

Cash 15,000
Receivables 10,000
Inventory 70,000
Equipment 130,000
Goodwill 100,000
Accounts Payable 25,000
Cash 300,000
Impairment of Intangible Assets

Impairment Summary

Type of Intangible Asset Impairment Test

Limited life Recoverability test, then fair value
test
Indefinite life other than goodwill Fair value test*
Goodwill Fair value test on reporting unit*

*
An optional qualitative assessment may be performed to determine whether the
fair value test needs to be performed.
Impairment of Intangible Assets

Impairment of Limited-Life Intangibles

Same as impairment for long-lived assets in Chapter 11.
1. If the sum of the expected future net cash flows (undiscounted) is less than the
carrying amount of the asset, an impairment has occurred (recoverability test).
2. The impairment loss is the amount by which the carrying amount of the asset
exceeds the fair value of the asset (fair value test).

The loss is reported as part of income from continuing operations, “Other expenses and
losses” section.
Impairment of Intangible Assets - Example

Illustration: Lerch, Inc. has a patent on how to extract oil from shale rock.
Unfortunately, several recent non-shale oil discoveries adversely affected the demand
for shale-oil technology. As a result, Lerch performs a recoverability test. It finds that
the expected future net cash flows from this patent are $35 million. Lerch’s patent has a
carrying amount of $60 million. Discounting the expected future net cash flows at its
market rate of interest, Lerch determines the fair value of its patent to be $20 million.
Perform the recoverability test.

Expected future net cash $35,000,000

flows
Carrying value 60,000,000
Asset impaired $25,000,000
Impairment of Intangible Assets - Example

Illustration: Perform the fair value test and the journal entry (if any) to record the
impairment of the asset.

Carrying amount of patent $60,000,000

Less: Fair value (based on present value computation) 20,000,000
Loss on impairment $40,000,000

Lerch records this loss as follows.

Loss on Impairment 40,000,000
Patents 40,000,000

Companies may not recognize restoration of the previously recognized impairment loss.
Impairment of Intangible Assets

Impairment of Indefinite-Life Intangibles Other than Goodwill

• Should be tested for impairment at least annually
• Impairment test is a fair value test
• If fair value of asset is less than carrying amount, an impairment loss is recognized
for the difference
• Recoverability test is not used
Impairment of Intangible Assets - Example

Illustration: Arcon Radio purchased a broadcast license for $2,000,000. Arcon Radio has
renewed the license with the FCC twice, at a minimal cost. Because it expects cash
flows to last indefinitely, Arcon reports the license as an indefinite-life intangible asset.
Recently the FCC decided to auction these licenses to the highest bidder instead of
renewing them. Arcon Radio expects reduced cash flows for the remaining two years of
its existing license. It performs a fair value test and determines that the fair value of the
intangible asset is $1,500,000.

Carrying amount of broadcast license $2,000,000

Less: Fair value of broadcast license 1,500,000
Loss on impairment $ 500,000
Impairment of Goodwill

Impairment of Goodwill
Two Step Process:
Step 1: If fair value is less than the carrying amount of the reporting unit (including
goodwill), then perform a second step to determine possible impairment.
Step 2: Determine the fair value of the goodwill (implied value of goodwill) and
compare to carrying amount.
 KEY TOPICS:

CHAPTER 17
• Debt Investments (Held-to-
Maturity, Trading, & Available for
Sale)
Investments • Equity Investments
Investment Accounting Approaches

Companies account for investments based on

• the type of security (debt or equity) and
• their intent with respect to the investment.

Type of Security Management Intent Valuation Approach

Debt No plans to sell Amortized cost
-Bonds- Plan to sell Fair value
Equity Plan to sell Fair value
-Stocks- Exercise some control Equity method
Debt Investment Classifications

Accounting for Debt Securities by Category

Unrealized Holding Gains or

Category Valuation Losses Other Income Effects
Held-to- Amortized Not recognized Interest when earned; gains and
maturity cost losses from sale.
Trading Fair value Recognized in net income Interest when earned; gains and
securities losses from sale.
Available- Fair value Recognized as other Interest when earned; gains and
for-sale comprehensive income and as losses from sale.
separate component of
stockholders’ equity
Investment in Debt Securities

Held-to-Maturity Securities (Amortized Cost)

Classify a debt security as held-to-maturity only if it has both
1. the positive intent and
2. the ability to hold securities to maturity.
Accounted for at amortized cost, not fair value.
Amortize premium or discount using the effective-interest method unless the straight-
line method yields a similar result.
Held-to-Maturity Securities - Example

Illustration: Robinson Company purchased $100,000 of 8 percent bonds of Evermaster

Corporation on January 1, 2019, at a discount, paying $92,278. The bonds mature
January 1, 2024 and yield 10%; interest is payable each July 1 and January 1. Robinson
records the investment as follows:

January 1, 2019
Debt Investments 92,278
Cash 92,278
Effective- Interest Method - Example
8% Bonds Purchased to Yield 10%
Bond Carrying
Cash Interest Discount Amount
Date Received Revenue Amortization of Bonds
1/1/19 $92,278
7/1/19 $ 4,000a $ 4,614b $ 614c 92,892d
1/1/20 4,000 4,645 645 93,537
7/1/20 4,000 4,677 677 94,214
1/1/21 4,000 4,711 711 94,925
7/1/21 4,000 4,746 746 95,671 c
$614 = $4,614 − $4,000
1/1/22 4,000 4,783 783 96,454
7/1/22 4,000 4,823 823 97,277
d
$92,892 = $92,278 + $614
1/1/23 4,000 4,864 864 98,141
7/1/23 4,000 4,907 907 99,048
1/1/24 4,000 4,952 952 100,000
$40,000 $47,722 $7,722
Amortized Cost – July 1, 2019 - Example
8% Bonds Purchased to Yield 10%
Bond Carrying
Cash Interest Discount Amount of
Date Received Revenue Amortization Bonds
1/1/19 $ 92,278
7/1/19 $ 4,000 $ 4,614 $ 614 92,892
1/1/20 4,000 4,645 645 93,537
7/1/20 4,000 4,677 677 94,214

Robinson Company records the receipt of the first semiannual interest payment on July
1, 2019, as follows:
Cash 4,000
Debt Investments 614
Interest Revenue 4,614
Amortized Cost – December 31, 2019 - Example

8% Bonds Purchased to Yield 10%

Bond Carrying
Cash Interest Discount Amount of
Date Received Revenue Amortization Bonds
1/1/19 $ 92,278
7/1/19 $ 4,000 $ 4,614 $ 614 92,892
1/1/20 4,000 4,645 645 93,537
7/1/20 4,000 4,677 677 94,214

Robinson is on a calendar-year basis, it accrues interest and amortizes the discount at

December 31, 2019, as follows:
Interest Receivable 4,000
Debt Investments 645
Interest Revenue 4,645
Available-for-Sale Securities

Companies report available-for-sale securities at

• fair value, with
• unrealized holding gains and losses reported as other comprehensive income, a
separate component of stockholders’ equity until realized.
Any discount or premium is amortized.
Available-for-Sale Debt Securities - Example
Example: Portfolio of Securities
Webb Corporation has two debt securities classified as available-for-sale. The following
illustration identifies the amortized cost, fair value, and the amount of the unrealized
gain or loss.
Available-for-Sale Debt Security Portfolio
December 31, 2020

Amortized Unrealized Gain

Investments Cost Fair Value (Loss)
Watson Corporation 8% bonds $ 93,537 $103,600 $10,063
Anacomp Corporation 10% bonds 200,000 180,400 (19,600)
Total of portfolio $293,537 $284,000 (9,537)
Previous fair value adjustment –0–
balance
Fair value adjustment—Cr. $ (9,537)
Portfolio of Securities - Example
Available-for-Sale Debt Security Portfolio
December 31, 2020
Investments Amortized Cost Fair Value Unrealized Gain
(Loss)
Watson Corporation 8% bonds $ 93,537 $103,600 $10,063
Anacomp Corporation 10% bonds 200,000 180,400 (19,600)
Total of portfolio $293,537 $284,000 (9,537)
Previous fair value adjustment –0–
balance
Fair value adjustment—Cr. $ (9,537)
Prepare the adjusting entry Webb would make on December 31, 2020 to record the loss.

Unrealized Holding Gain or Loss—Equity 9,537

Fair Value Adjustment 9,537
Sale of Available-for-Sale Securities - Example

Illustration: Webb Corporation sold the Watson bonds on July 1, 2021, for $90,000, at
which time it had an amortized cost of $94,214.

Amortized cost (Watson bonds) $94,214

Less: Selling price of bonds 90,000
Loss on sale of bonds $ 4,214

Cash 90,000
Loss on Sale of Investments 4,214
Debt Investments 94,214
Trading Securities

Trading Securities (Fair Value Through Net Income)

Companies report trading securities at
• fair value, with
• unrealized holding gains and losses reported as part of net income.
Any discount or premium is amortized.
A holding gain or loss is the net change in fair value of a security from one period to
another, exclusive of dividend or interest revenue recognized but not received.
Investments in Equity Securities

Represent ownership of capital stock.

Cost includes:
• price of the security, plus
• broker’s commissions and fees related to purchase.

Unrealized Holding
Category Valuation Gains or Losses Other Income Effects
Holdings less than Fair value Recognized in net Dividends declared; gains and
20% income losses from sale.
Holdings between Equity Not recognized Proportionate share of
20% and 50% investee's net income.
Holdings more Consolidation Not recognized Not applicable.
than 50%
Investments in Equity Securities

Holding of Less Than 20%

Accounting Subsequent to Acquisition

With Without
Readily Determinable Fair Readily Determinable Fair
Value Value
Value and report the Value and report the
investment using the fair investment using a
value method. practicability exception.

Entities report equity investments at cost, less impairment. Entities recognize dividends
when received and generally recognize gains or losses when selling the securities.
Holdings of Less Than 20% - Example

Upon acquisition, companies record equity securities at cost.

Illustration: On November 3, 2020, Republic Corporation purchased common stock of
three companies, each investment representing less than a 20 percent interest.

Cost
Northwest Industries, Inc. $259,700
Campbell Soup Co. 317,500
St. Regis Pulp Co. 141,350
Total cost $718,550
Holdings of Less Than 20% - Example

Dividends Received
Illustration: On December 6, 2020, Republic receives a cash dividend of $4,200 from
Campbell Soup Co.

Cash 4,200
Dividend Revenue 4,200
Holdings of Less Than 20% - Example

Portfolio
Illustration: Republic’s available-for-sale equity security portfolio on December 31,
2020:
Equity Security Portfolio
December 31, 2020
Unrealized Gain
Investments Cost Fair Value (Loss)
Northwest Industries, Inc. $259,700 $275,000 $ 15,300
Campbell Soup Co. 317,500 304,000 (13,500)
St. Regis Pulp Co. 141,350 104,000 (37,350)
Total of portfolio $718,550 $683,000 (35,550)
Previous fair value adjustment –0–
balance
Fair value adjustment—Cr. $(35,550)
Holdings of Less Than 20% - Example

Fair Value Adjustment

Illustration: Prepare the entry Republic would make on December 31, 2020, to record
the net unrealized gains and losses.

Unrealized Holding Gain or Loss – Income 35,550

Fair Value Adjustment 35,550
Investments in Equity Securities

Holding Between 20% and 50% (Equity Method)

An investment (direct or indirect) of 20 percent or more of the voting stock of an
investee should lead to a presumption, that in the absence of evidence to the contrary,
an investor has the ability to exercise significant influence over an investee.
In instances of “significant influence,” the investor must account for the investment
using the equity method.
Record the investment at cost and subsequently adjust the amount each period for
• the investor’s proportionate share of the earnings (losses) and
• dividends received by the investor.
Fair Value Method vs. Equity Method