ReSA - THE REVIEW SCHOOL OF ACCOUNTANCY

CPA Review Batch 41 Ÿ May 2021 CPA Licensure Examination Ÿ Weeks 10-13

AUDITING (Auditing Problems) S. Ireneo Ÿ C. Espenilla

AP-400: INVESTING CYCLE: AUDIT OF PROPERTY, PLANT

AND EQUIPMENT, INTANGIBLES AND OTHER ASSETS
PROBLEM 1:

1. 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.

2. 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 internals controls and performs extensive
tests of current-year property and equipment transactions.

3. 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.

4. 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

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. 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 year entries n 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.

9. Which of the following procedures would an auditor most likely perform in obtaining evidence about
valuation of PPE?
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.

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Weeks No. 10-13: INVESTING CYCLE: AUDIT OF PPE, INTANGIBLES AND OTHER ASSETS

10. 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 rollforward
analysis.
c. Subsequent events.
d. Confirming ownership and corroborating transactions through inquiries with the management.

11. 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.

12. 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.

13. In auditing intangible assets, an auditor most likely would review or recomputed amortization and
determine whether the amortization period is reasonable in support of management’s financial statement
assertion of:
a. Valuation
b. Existence
c. Completeness
d. Rights and obligation

14. Examining documentation of the purchase of intangible assets is consistent with the auditor’s objective of
validating the management’s assertion of:
a. Valuation and completeness
b. Existence and completeness
c. Valuation and rights/obligation
d. Rights/obligation and existence

PROBLEM 2:

Price Inc. incurred the following expenditures in 2020:

Purchase of land with a dilapidated building (no significant value) P5,600,000
Land survey 208,000
Fees for search of title for land 24,000
Special assessment of the government for road projects 80,000
Cost of to raze the old building, see audit note a. 940,000
Payments to tenants of the old building 184,000
Building construction permit fee 140,000
Cost of excavation of the land, including an excavation equipment 400,000
with a cost of P100,000, see audit note b
Temporary quarters for construction workers 430,000
Dividends that should have been earned had the money used for 200,000
construction been invested in the equity instruments
Cost of construction 18,000,000
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
Damages awarded for injuries sustained in construction where no
Insurance is carried 336,000
List price of Machinery and equipment purchased 4,567,000
Trade discount not taken on the machinery and equipment purchased 127,000
Cost of freight and handling 50,000
Cost of testing the equipment, see note c. 85,000

AdditionalAudit notes:
a. Salvage proceeds from materials recovered from demolition of dilapidated building, P5,000.
b. Proceeds from sale of the excavation equipment, P20,000.
c. Proceeds from sale of produce from the testing done on the machinery and equipment
amounted to P25,000.
d. 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 his
incidental activity.

Requirements:
1. What is the correct cost of the land?

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2. What is the correct cost of land improvements, if there are any?

3. What is the cost of the building?
4. What is the cost of machinery and equipment?

PROBLEM 3:

Inca Company was organized in early July of 2020. In your audit of the company’s books, you find the
following land, building and equipment account:

Account title: Land, building and equipment

July 1 Organization fees P120,000
1 Land site and old building (note a) 1,950,000
3 Option payments (note b) 250,000
20 Broker’s fees on property acquired 110,000
July 30 Cost of remodeling the building 60,000
Aug. 29 Salaries of Executives (note c) 360,000
Sept. 1 Stock bonus to corporate promoters
12,000 shares, P25 market value per share 300,000
Dec. 15 Real property taxes (note d) 240,000

Audit notes:
a. The building acquired on July 1, 2020, had a fair value of P500,000 while the land was currently
appraised at P1,500,000.
b. P50,000 of the option money paid were for properties not acquired.
c. The executives had no participation on the remodeling of the building.
d. The property taxes were for the years 2019 and 2020.

Requirements:
1. How much is the correct cost of the Land?
2. How much is the correct cost of the Building?

PROBLEM 4:

ABC Corporation started its operations at the beginning of 2018. 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% downpayment 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, 2018. 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 2018
and was completed in time for the company’s inception of operation at the beginning of 2018.
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 is separate occasion 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 at 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.

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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.

Requirement: Determine the correct carrying values of the following assets as of December 31, 2018:
1. Land
2. Building
3. Equipment A
4. Equipment B
5. Equipment C
6. Furniture and Fixture

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, 2018 and were supported by a 5 year, 12%
note payable. The construction commenced on July 1, 2018 and was substantially completed by
November 30, 2018. 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?
2. What is the total interest expense to be recognized for 2018

CASE 2:
Pan Corp. contracted Nat Inc. on January 1, 2018 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
2018, with the last payment to be made upon completion. The building was completed on November 30,
2018.

Pan Corp. made the following payments during 2018:

January 1 P8,000,000
April 1 19,000,000
July 31 24,400,000
October 1 21,600,000
November 30 7,000,000
Pan Corp. made the following arrangements with financing companies in 2018:

• 12%, P25M loan dated January 1, 2018, with interest compounded semi-annually. Both
principal and compounded accumulated interests are payable on December 31, 2021.
This loan related specifically to the building project.

• 10%, 10-year, P35M note dated December 31, 2017, with simple interest; interest
payable annually on December 31. The loan was for general financing purposes including
the partial financing of the construction.

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• 12%, 5-year. P40M note dated December 31, 2017, 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 2018?
2. The amount of interest to be expense in 2018?
3. The carrying value of the building as of December 31, 2018?

PROBLEM 6:

Information pertaining to Ganado Corporation’s property, plant and equipment for 2018 is presented
below:

Account Balances at January 1, 2018

Debit Credit
Land P150,000
Building 1,200,000
Accumulated depreciation P263,100
Machinery and equipment 900,000
Accumulated depreciation 250,000
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-year’s-digits; 4 years

The salvage value of the assets is immaterial. Dep’n is computed to the nearest month.

Transactions during 2018 and other information:

• On January 1, 2018, 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, 2018, a machine purchased for P23,000 on July 1, 2012, was destroyed by
fire. Ganado recovered P8,500 from its insurance company.

• On July 1, 2018 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, 2018 would have been depreciated at a total amount of P18,000 for the year
ended December 31, 2018.

1. What is the correct depreciation expenses for 2018 for the:

a) Building, b) Machinery and equipment, c) Automotive Equipment
2. What is the carrying values as of Dec. 31, 2018 for the:
a) Building, b) Machinery and equipment, c) Automotive Equipment
3. How much is the loss on the machine destroyed by fire?
4. How much is the gain or loss on the trade-in transaction on January 1?

PROBLEM 7:

In the course of your audit of property, plant and equipment of Malik Corp. for the period ended
December 31, 2018, 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 cots which were expensed by the company:

Schedule of Property Additions

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

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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 ensue 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.

Schedule of Repairs and Maintenance Expense

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
b. Equipment
c. Furniture and fixture
2. How much from the above items should be expensed?

PROBLEM 8:

Bonbon Company purchased a manufacturing plant building on January 2009, for P5.2M. The building has
been depreciated using the straight-line method with 30 year useful life and a 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
that the company’s.

On December 31, 2018, 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, 2018 before impairment loss testing?
2. What is the value in use of the asset on December 31, 2018?
3. What is the recoverable value on December 31, 2018?
4. What is the impairment loss to be recognized in 2018?
5. What is the depreciation expense related to the asset in 2019?

PROBLEM 9:

Legaspi Corp. is assessing one of its operating departments for impairment as of December 31, 2018.
The operating department comprise of several group of assets with aggregate carrying amount of
P7,380,000 as of the testing date.

Individual cash flows related to each asset comprising the department cannot be ascertained thus you
suggested that the company treat the operating department as a single cash generating unit for the
purpose of applying PAS 36, Impairment of assets. A cash generating unit as defined by the said
standards is the smallest identifiable group of assets that generates cash inflows that are largely
independent of the cash inflows from other assets or group of assets.

The following presents the estimated cash flows from the continued operations of the department:

Year Revenues Expense, excluding

Depreciation
2019 P4,500,000 P1,680,000
2020 4,800,000 2,520,000
2021 3,900,000 3,300,000
2022 1,200,000 900,000

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The fair value of the group of assets net of estimated disposition costs was determined to be P5,070,000.
The prevailing pre-tax discount rate appropriate for this analysis is 5%.

1. What is the value in use of the group of assets?

2. How much is the recoverable amount of the group of assets?
3. How much is the impairment loss?

PROBLEM 10:

NAIA Company acquired a machine on January 1, 2016, at a cost of P1,200,000. It was expected to have
a useful economic life of 10 years. NAIA uses the straight-line method in depreciating its machinery and
equipment and reports on a calendar year basis.

On December 31, 2018, the machine was appraised as having a gross replacement cost of P1,500,000.
NAIA applies the revaluation model in valuing this class of property, plant, and equipment after its initial
recognition.

Requirements:
1. How much is the depreciation expense in 2019?
2. How much is the balance of the revaluation surplus account on December 31, 2019 assuming that the
company uses the “Piecemeal basis” of transferring the revaluation surplus to retained earnings?
3. What is the carrying value of the machine on December 31, 2019?
4. Assuming that the machinery was sold on December 31, 2020 at P800,000, what is the gain or loss to
be recognized in the profit or loss for 2020 and how much in revaluation surplus should be transferred
as a “lump-sum to retained earnings?
5. Assuming that the fair market value of the equipment is P1.5M on December 31, 2018, what is the
carrying value of the revaluation surplus on December 31, 2019 under “Piecemeal basis” of
transferring the revaluation surplus to retained earnings?

PROBLEM 11:

On December 31, 2016, Pepsi Corp. subjected to impairment test a building which was the company’s
factory site. Because of the expected decline the demand for the company’s product, the company
deemed it necessary to test the said building for possible impairment loss. Data pertinent to the building
on this date were as follows:

Original cost P24,000,000

Accumulated depreciation as at January 1, 2016 6,000,000
Selling price 14,000,000
Estimated cost to make the sale 500,000
Value in use 14,000,000
Remaining useful life as at the beginning of the year 9 years
Method of depreciation Straight-line

On December 31, 2018, the company decided to convert the building for rentals. As a result the asset is
now found to have a recoverable amount of P15,000,000.

Requirements:
1. How much loss on impairment is recognized in 2016?
2. How much is the depreciation expense recognized in 2017?
3. How much gain on recovery is recognized in 2018 income statement?
4. How much is the depreciation expense recognized in 2019 under the cost model of valuing the
property?
5. How much is the depreciation expense recognized in 2019 under the fair market value model of
valuing the property?

PROBLEM 12:

Ram Corp. purchased a machinery on January 1, 2016 for P5,000,000. The same had an expected useful
life of 10 years. Straight-line depreciation method is in place for similar items. On January 1, 2018, the
asset is appraised as having a sound value of P4,500,000. On January 1, 2021, the asset has a fair
market value of P1,800,000.

1. How much is credited to the revaluation surplus as a result of the revaluation in 2018?
2. What is the correct depreciation to be recognized in 2018?
3. How much is the loss on impairment should be recognized on January 1, 2021
4. What is the depreciation expense in 2022?

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PROBLEM 13:

The following costs are generally incurred by a newly established entity:

Investment in a subsidiary company P1,500,000

Timberland 2,000,000
Cost of engineering activity required to advance the design of a product to
manufacture stage 120,000
Lease prepayments (6 months rent paid in advance) 60,000
Cost of equipment obtained under finance lease 700,000
Internally generated publishing title 230,000
Costs incurred in the formation of the corporation 90,000
Operating losses incurred in the start-up of the business 560,000
Training costs incurred in start-up of operations 80,000
Purchase of a franchise 1,200,000
Goodwill internally generated 300,000
Cost of testing in search for product alternatives 65,000
Goodwill acquired in the purchase of a business 640,000
Cost of developing a patent 140,000
Legal costs incurred in securing a patent 70,000
Costs of successful legal suit to protect the patent 230,000
Cost of purchasing a patent from an inventor 500,000
Cost of conceptual formulation of possible product alternatives 160,000
Cost of purchasing a copyright 900,000
Research and development costs 340,000
Long-term receivables 310,000
Cost of developing a trademark 61,000
Cost of purchasing a trademark 290,000
Computer software for a computer-controlled machine that cannot operate without
that specific software 130,000
Operating system of a computer 10,000
Stand-alone application computer software 100,000

How much from the above items should be recognized as intangible assets including goodwill?

PROBLEM 14:

Gary Inc., a manufacturer of rubber materials useful for the manufacture of tires, expended P1,020,000 in
research and development costs which resulted to a new formula which extends the useful life of its
rubber products by 50%. The patent related to the “know how” was approved and granted by the
government in late December of 2014 after payment of the necessary legal and processing fees at
P640,000. The company estimates that it would be able to benefit from the formula for 10 years, after
which competitors are estimated to have come up with the same formula.

On January 1, 2017, Gary Inc. spent P120,000 to acquire a related patent which successfully extended
the life of original patent for additional 4 years.

By the end of 2018, the company determined that with the competitor launching a more superior product,
the patent might have been impaired. The company estimates that the remaining net cash flows from the
patent shall be P150,000 for the next three years, the revised useful life. The appropriate market rate of
interest was 8% at this time.

1. What is the amortization expense in each year:

a. 2015
b. 2016
c. 2017
d. 2018
2. What is the recoverable value of the patent at the end of 2018?
3. What is the impairment loss to be recognized in the 2018 income statement?
4. What is the amortization expense in 2019?

PROBLEM 15:

Bits and Bites Inc. is engaged in developing computer software for various industries. Most of the
computer programmers are involved in developmental work designed to produce software that will
perform fairly specific tasks in a user friendly manner. Extensive testing of the working model is
performed before it is released to production for preparation of masters and further testing. As a result of
careful preparation, Bits and Bytes has produced several products that have been very successful in the

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market place. The following costs incurred in 2017 and 2018 are related to a specific software created for
retail stores which incorporates a stores sales, purchases and inventory system in an integrated system:

Salaries and wages of programmers doing research incurred in 2017 P940,000

Expenses related to projects prior to establishment of
technological feasibility by the end of 2017 313,600
Expenses related to projects after technological feasibility has
been established in early 2018 but before software is available for 330,000
production (e.g. cost of coding and testing the product master)
Costs to produce and prepare software for sale in 2018 (e.g. cost of 225,000
duplicating the product master)

Additional data for 2018:

Sales of products for the year P2,000,000
Portion of goods available for sale sold during year 70%

Based on the above and the result of your audit, determine the following:
1. Total amount related to the development of computer software that should be expense when
incurred:
2. Amount to be capitalized as software development cost subject to amortization
3. Cost of ending inventory assuming that the computer software will benefit the company for 3
years, after which a more superior software would have been created rendering the developed
software obsolete.

PROBLEM 16:

The following information pertains to Colgate Company’s intangible assets:

a. On January 1, 2018, the company signed an agreement to operate as a franchise of Hapee Inc.,
for an initial franchise fee of P3,000,000. Of the amount, P600,000 was paid when the agreement
was signed and the balance payable in 4 annual equal payments at the beginning of each year
starting 2019. The agreement provides that the down payment is not refundable and that no
future services are required of the franchisor. The discount rate appropriate to the agreement is
14% which is the implicit rate to similar loans. The agreement provides for a 5% continuing
franchise fee based on the revenue of the franchisee. Colgate had a total revenues of P18M in
2018. The company further estimates that the net future cash flows from continued use of the
franchise is at P250,000 annually.

b. A trademark was purchased from another company for P1,000,000 on January 1, 2016.
Expenditures totaling to P326,400 for successfully defending the trademark was incurred in July 1,
2018. By the end of 2016 and 2017, estimates place future net annual cash flows from the
trademark at P200,000 for its remaining life. By the end of 2018, the estimate had been revised
to P80,000 because of a recent technological development in the industry.

c. The prevailing market rate of interest were at 9%, 9.5% and 10% at the end of 2016, 2017 and
2018, respectively.

Requirements:
Case 1:
Assuming that the intangible assets had the following definite life from date of acquisition: Franchise, 10
years; Patent, 8 years; Trademark, 10 years: Determine the following:
1. What is the carrying value of the franchise at the end of 2018?
2. What is the carrying value of the trademark at the end of 2018?

Case 2:
Assuming that the intangible assets had the following life from date of acquisition: Franchise, indefinite;
Patent, 8 years; Trademark, Indefinite: Determine the following:
1. What is the carrying value of the franchise at the end of 2018?
2. What is the carrying value of the trademark at the end of 2018?

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PROBLEM 17:

Karen Corporation is negotiation with Julius Corp. to purchase all of Julius Corp.’s net assets and assume
all liabilities.

You have been asked to help develop a tentative offer price which will include the least amount of
goodwill involved (since Karen shall be paying the net assets at FMV plus additional amount which shall
correspond to the goodwill.)

Karen made available to you the following information about the books of Julius Corp.

BV FMV
Current Assets 550,000 700,000
Non-current assets* 2,650,000 **2,800,000
Current and Noncurrent Liabilities 900,000 900,000

Total accumulated Net income from 2014-2018*** 1,800,000

*Book value includes a P200,000 goodwill and P1,500,000 depreciable assets with an average remaining
useful life of 5 years. The balance was attributed to the land whose fair value approximated its book
value.

**Excludes the goodwill.

***Included in the accumulated earnings above is an annual presidents’ bonus averaging to P50,000 and
an gain on sale of equipment in 2016 at P200,000.

The normal earnings of similar companies within the industry is 10%.

You were given the following options by which goodwill shall be computed:
a) Purchase of goodwill in the form of 5 years excess earnings.
b) Capitalize excess earnings at 25%
c) Capitalize average earnings at 10%
d) Present value method assuming current effective rate is at 10% (5 years)

Requirements:
1. Compute for the goodwill under each option above:
2. Compute for the purchase/acquisition price under each option above:
3. What is the best option on the point of view of the acquiring company?

PROBLEM 18:

ABC Corporation has several cash generating units (CGU). As of December 31, 2018, the demand for the
products produced by one of its cash generating units substantially declined thus, the cash generating
unit was considered for possible impairment. The following were made available for the said testing:

Asset CV, 12/2018

Factory Equipment P1,750,000
Office Equipment 1,475,000
Building 2,725,000
Goodwill 500,000

As a result of the impairment event, the expected annual net cash flows from the CGU are expected to be
at P1,252,282 for its remaining 5-year useful life. The fair value less cost to sell of the CGU is at
P5,250,000. (Assume a prevailing rate of interest at 8%)

Required:
1. What is the recoverable value of the cash generating unit?
2. What is the impairment loss on the cash generating unit?
3. What is the carrying value of the Building after the impairment loss recognition?
4. If the factory equipment has a recoverable amount of P1,600,000 and the office equipment had a
recoverable value of P1,400,000, what is the carrying value of the Building after the impairment
loss?

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