1460T_c02.qxd12/31/0509:10 am Page53 EQA Exercises·53 (p)Goodwill is recorded only at time of purchase. (q)No profits are anticipated and all possible losses are recognized. (r)A company charges its sales commission costs to expense (LO 7)E2-6 (Full Disclosure Principle)Presented below are a number of facts related to R.Kelly,Inc.Assume that no mention of these facts was made in the financial statements and the related notes. Instructions Assume that you are the auditor of R.Kelly,Inc.and that you have been asked to explain the appropri- ate accounting and related disclosure necessary for each of these items. (a)The company decided that,for the sake of conciseness,only net income should be reported on the income statement.Details as to revenues,cost of goods sold,and expenses were omitted. (b)Equipment purchases of $170,000 were partly financed during the year through the issuance of a $110,000 notes payable.The company offset the equipment against the notes payable and reported plant assets at $60,000. (c) R.Kelly has reported its ending inventory at $2,100,000 in the financial statements.No other in- formation related to inventories is presented in the financial statements and related notes (d)The company changed its method of valuing inventories from weighted-average to FIFO.No men- tion of this change was made in the financial statements (L07) E2-7 (Accounting Principles-Comprehensive)Presented below are a number of business transac- tions that occurred during the current year for Fresh Horses,Inc. Instructions In each of the situations,discuss the appropriateness of the journal entries in terms of generally accepted accounting principles. (a)The president of Fresh Horses,Inc.used his expense account to purchase a new Suburban solely for personal use.The following journal entry was made. Miscellaneous Expense 29,000 Cash 29,000 (b)Merchandise inventory that cost $620,000 is reported on the balance sheet at $690,000,the ex- pected selling price less estimated selling costs.The following entry was made to record this in- crease in value. Merchandise Inventory 70,000 Revenue 70,000 (c)The company is being sued for $500,000 by a customer who claims damages for personal injury apparently caused by a defective product.Company attorneys feel extremely confident that the company will have no liability for damages resulting from the situation.Nevertheless,the com- pany decides to make the following entry. Loss from Lawsuit 500,000 Liability for Lawsuit 500,000 (d)Because the general level of prices increased during the current year,Fresh Horses,Inc.deter- mined that there was a $16,000 understatement of depreciation expense on its equipment and de- cided to record it in its accounts.The following entry was made. Depreciation Expense 16,000 Accumulated Depreciation 16,000 (e)Fresh Horses,Inc.has been concerned about whether intangible assets could generate cash in case of liquidation.As a consequence,goodwill arising from a purchase transaction during the current year and recorded at $800,000 was written off as follows. Retained Earnings 800,000 Goodwill 800,000 (f)Because of a"fire sale,"equipment obviously worth $200,000 was acquired at a cost of $155,000. The following entry was made. Equipment 200,000 Cash 155,000 Revenue 45,000 (LO 7)E2-8 (Accounting Principles-Comprehensive)Presented on page 54 is information related to Garth Brooks,Inc.(p) Goodwill is recorded only at time of purchase. (q) No profits are anticipated and all possible losses are recognized. (r) A company charges its sales commission costs to expense. E2-6 (Full Disclosure Principle) Presented below are a number of facts related to R. Kelly, Inc. Assume that no mention of these facts was made in the financial statements and the related notes. Instructions Assume that you are the auditor of R. Kelly, Inc. and that you have been asked to explain the appropri￾ate accounting and related disclosure necessary for each of these items. (a) The company decided that, for the sake of conciseness, only net income should be reported on the income statement. Details as to revenues, cost of goods sold, and expenses were omitted. (b) Equipment purchases of $170,000 were partly financed during the year through the issuance of a $110,000 notes payable. The company offset the equipment against the notes payable and reported plant assets at $60,000. (c) R. Kelly has reported its ending inventory at $2,100,000 in the financial statements. No other in￾formation related to inventories is presented in the financial statements and related notes. (d) The company changed its method of valuing inventories from weighted-average to FIFO. No men￾tion of this change was made in the financial statements. E2-7 (Accounting Principles—Comprehensive) Presented below are a number of business transac￾tions that occurred during the current year for Fresh Horses, Inc. Instructions In each of the situations, discuss the appropriateness of the journal entries in terms of generally accepted accounting principles. (a) The president of Fresh Horses, Inc. used his expense account to purchase a new Suburban solely for personal use. The following journal entry was made. Miscellaneous Expense 29,000 Cash 29,000 (b) Merchandise inventory that cost $620,000 is reported on the balance sheet at $690,000, the ex￾pected selling price less estimated selling costs. The following entry was made to record this in￾crease in value. Merchandise Inventory 70,000 Revenue 70,000 (c) The company is being sued for $500,000 by a customer who claims damages for personal injury apparently caused by a defective product. Company attorneys feel extremely confident that the company will have no liability for damages resulting from the situation. Nevertheless, the com￾pany decides to make the following entry. Loss from Lawsuit 500,000 Liability for Lawsuit 500,000 (d) Because the general level of prices increased during the current year, Fresh Horses, Inc. deter￾mined that there was a $16,000 understatement of depreciation expense on its equipment and de￾cided to record it in its accounts. The following entry was made. Depreciation Expense 16,000 Accumulated Depreciation 16,000 (e) Fresh Horses, Inc. has been concerned about whether intangible assets could generate cash in case of liquidation. As a consequence, goodwill arising from a purchase transaction during the current year and recorded at $800,000 was written off as follows. Retained Earnings 800,000 Goodwill 800,000 (f) Because of a “fire sale,” equipment obviously worth $200,000 was acquired at a cost of $155,000. The following entry was made. Equipment 200,000 Cash 155,000 Revenue 45,000 E2-8 (Accounting Principles—Comprehensive) Presented on page 54 is information related to Garth Brooks, Inc. Exercises • 53 (L0 7) (L0 7) (L0 7) 1460T_c02.qxd 12/31/05 09:10 am Page 53