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AP - Liabilities - FIN ACC

Accountancy (Philippine Normal University)

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CPA REVIEW SCHOOL OF THE PHILIPPINES

Manila
AUDITING PROBLEMS
AUDIT OF LIABILITIES – QUIZZERS

PROBLEM NO. 1
Cavaliers Corporation is selling audio and video appliances. The company’s fiscal year
ends on March 31. The following information relates to the obligations of the company as
of March 31, 2005:

Notes payable
Cavaliers has signed several long-term notes with financial institutions. The maturities of
these notes are given below. The total unpaid interest for all of these notes amounts to
P340,000 on March 31, 2005.
Due date Amount
April 31, 2005 P 600,000
July 31, 2005 900,000
September 1, 2005 450,000
February 1, 2006 450,000
April 1, 2006 – March 31, 2007 2,700,000
P 5,100,000

Estimated warranties
Cavaliers has a one-year product warranty on some selected items. The estimated
warranty liability on sales made during the 2003 – 2004 fiscal year and still outstanding as
of March 31, 2004, amounted to P252,000. The warranty costs on sales made from April
1, 2004 to March 31, 2005, are estimated at P630,000. The actual warranty costs incurred
during 2004 – 2005 fiscal year are as follows:
Warranty claims honored on 2003 – 2004 sales P 252,000
Warranty claims honored on 2004 – 2005 sales 285,000
Total P 537,000

Trade payables
Accounts payable for supplies, goods, and services purchases on open account amount to
P560,000 as of March 31, 2005.

Dividends
On March 10, 2005, Cavaliers’ board of directors declared a cash dividend of P0.30 per
common share and a 10% common stock dividend. Both dividends were to be distributed
on April 5, 2005 to common stockholders on record at the close of business on March 31,
2005. As of March 31, 2005, Cavaliers has 5 million, P2 par value, common shares issued
and outstanding.

Bonds payable
Cavaliers issued P5,000,000, 12% bonds, on October 1, 1999 at 96. The bonds will
mature on October 1, 2009. Interest is paid semi-annually on October 1 and April 1.
Cavaliers uses the straight line method to amortize bond discount.

QUESTIONS:
Based on the foregoing information, determine the adjusted balances of the following as of
March 31, 2005:
1. Estimated warranty payable
a. P252,000 b. P345,000 c. P630,000 d. P882,000

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2. Unamortized bond discount

a. P110,000 b. P200,000 c. P100,000 d. P90,000
3. Bond interest payable
a. P0 b. P300,000 c. P150,000 d. P250,000
4. Total current liabilities
a. P6,445,000 b. P5,105,000 c. P5,445,000 d. P3,945,000
5. Total noncurrent liabilities
a. P7,700,000 b. P7,590,000 c. P7,500,000 d. P7,610,000
SUGGESTED ANSWERS: B, D, B, C, D

PROBLEM NO. 2
Pirates’ Music Emporium carries a wide variety of music promotion techniques - warranties
and premiums – to attract customers.

Musical instrument and sound equipment are sold in a one-year warranty for replacement
of parts and labor. The estimated warranty cost, based on past experience, is 2% of sales.

The premium is offered on the recorded and sheet music. Customers receive a coupon for
each peso spent on recorded music or sheet music. Customers may exchange 200
coupons and P20 for an AM/FM radio. Pirates pays P34 for each radio and estimates that
60% of the coupons given to customers will be redeemed.

Pirates’ total sales for 2005 were P7,200,000 - P5,400,000 from musical instrument and
sound reproduction equipment and P1,800,000 from recorded music and sheet music.
Replacement parts and labor for warranty work totaled P164,000 during 2005. A total of
6,500 AM/FM radio used in the premium program were purchased during the year and
there were 1,200,000 coupons redeemed in 2005.

The accrual method is used by Pirates to account for the warranty and premium costs for
financial reporting purposes. The balance in the accounts related to warranties and
premiums on January 1, 2005, were as shown below:
Inventory of Premium AM/FM radio P39,950
Estimated Premium Claims Outstanding 44,800
Estimated Liability from Warranties 136,000
QUESTIONS:
Based on the above and the result of your audit, determine the amounts that will be shown
on the 2005 financial statements for the following:
1. Warranty expense
a. P108,000 b. P164,000 c. P144,000 d. P80,000
2. Estimated liability from warranties
a. P108,000 b. P136,000 c. P164,000 d. P80,000
3. Premium expense
a. P 75,600 b. P108,000 c. P183,600 d. P126,000
4. Inventory of AM/FM radio
a. P46,950 b. P77,350 c. P39,950 d. P56,950
5. Estimated liability for premiums
a. P75,600 b. P63,450 c. P36,400 d. P44,800
SUGGESTED ANSWERS: A, D, A, D, C

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PROBLEM NO. 3
In the audit process, the following data were obtained from the books of the Spurs
Company which uses a voucher system. All invoices are subject to term 2/10, n/30 and
are entered net with the discount entered in the Purchase Discount column of the voucher
register. The accountant in charge of the books went on leave to attend to his family
based in New Jersey. A fresh accounting graduate has been assigned to record the
transactions. At year-end, the substitute accountant finds that the unpaid vouchers do not
agree with the Vouchers Payable control account. You are called to adjust the matter.
A schedule of unpaid vouchers as of December 31, 2005, all of which are net of discount,
is presented to you:
Date Voucher No. Supplier Amount
Nov. 27 797 Duncan Supply Co. P 78,400
Dec. 02 821 Ginobili Distributors 19,600
11 829 Parker Sales 44,100
20 836 Mohamed Dealers 17,150
21 842 Bowen Merchandising 22,050
22 856 Horry Mercantile 80,850
31 865 Jackson Traders 78,400
P340,550

Vouchers Payable (control account)

Cash disbursements P1,309,500 Purchases journal P1,645,000
Purchase returns journal 36,750*
* Voucher Nos. 821 and 836 cancelled as goods were returned in December.

REQUIRED:
Based on the above and the result of your audit, compute for the following as of December
31, 2005:
1. Adjusted balance of Vouchers Payable
a. P310,000 b. P306,750 c. P303,800 d. P344,250
2. Purchase discounts lost on unpaid vouchers
a. P6,200 b. P2,950 c. P3,700 d. P0
3. Purchase discounts lost on paid vouchers
a. P28,750 b. P8,000 c. P5,050 d. P41,800
4. Adjusting journal entry or entries to correct the accounts will include
a. A debit to Purchase Discounts Lost of P11,250.
b. A debit to Purchase Discounts Lost of P5,050.
c. A credit to Vouchers Payable of P8,000.
d. A credit to Vouchers Payable of P11,250.
SUGGESTED ANSWERS: B, B, C, C

PROBLEM NO. 4
In your initial audit of Bulls Finance Co., you find the following ledger account balances.
12%, 25-year Bonds Payable, 2001 issue
01/01/2001 CR P 1,600,000

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Treasury Bonds
10/01/2005 CD P 216,000

Bond Premium
01/01/2001 CR P 80,000

Bond Interest Expense

01/01/2005 CD P 96,000
07/01/2005 CD 96,000

The bonds were redeemed for permanent cancellation on October 1, 2005 at 105 plus
accrued interest.

QUESTIONS:
Based on the above and the result of your audit, determine the following:
1. The adjusted balance of bonds payable as of December 31, 2005 is
a. P1,400,000 b. P1,600,000 c. P1,000,000 d. P1,384,000
2. The unamortized bond premium on December 31, 2005 is
a. P80,000 b. P64,000 c. P56,000 d. P58,800
3. The total bond interest expense for the year 2005 is
a. P189,100 b. P182,900 c. P188,800 d. P182,800
4. The gain or loss on partial bond redemption is
a. P1,900 loss b. P1,900 gain c. P18,100 loss d. P18,100 gain
SUGGESTED ANSWERS: A, C, B, A

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