College of Business Administration

Colon St., Cebu City

Tel No.: 416-8321/416-8336

Name: Atillo, Lyle C. Date: November 2020

Year: BSA-3 Instructor: Ms. Anna Mae Magbanua, CPA
Subject: Auditing Problems 2

Module 4
Major output

Lesson 7
CASE 1

On December 31, 2019, LEMA CO. signs a 10-years non-cancelable lease agreement to lease a
storage building from Storage Company. The following information pertains to this lease
agreement:

1. The agreement requires equal rental payments of P720, 000 beginning on December 31,
2019.
2. The fair value of the building on December 31, 2019, is P4, 400,000.
3. The building has an estimated economic l life of 12 years, with an unguaranteed residual
value of 100,000. Leman depreciates similar building on the straight-line method.
4. The lease is non-renewable. At the termination of the lease, the building reverts to the
lessor.
5. The lessor’s implicit rate, known to Leman Co., is 12% per year.
6. The yearly rental payment includes P24, 705 of executor costs related to taxes on the
property.
The following present value factors are for 10 periods at 12% annual interest rate:

Present value of an annuity due of 1 6.32825

Present value of an ordinary annuity of 1 5.65022

Present value of 1 0.32197

 1. What amount should be capitalized as the cost of the leased section of Leman’s statement
of financial position at December 31, 2020? P 3,453,976.00

2. What amount should be included in the current liabilities section of Leman’s statement
of financial position at December 31, 2020? P 280,818.00

3. What amount should be included in the noncurrent liabilities section of Leman’s

statement of financial position at December 31, 2020? P 3,173,158.00

4. What is the total lease-related expenses to be reported in Leman’s income statement for
the year ended December 31, 2020? P 909,270.00

Case 1

Annual Rent 720,000.00

Less: Executory Costs 24,705.00
Minimum Annual Lease Payment 695,295.00
Minimum Annual Lease Payment 695,295.00
Multiply: PV of Annuity due of 1 6.32825
PV of Minimum Lease Payment 4,400,000.58

Depreciation
Fair Value of Building 4,400,000.00
Divide: Period 10 years
Depreciation expense 440,000.00

Date Payments Interest Expense Amortization Present Value

12/31/2019 4,400,001.00
12/31/2019 695,295.00 695,295.00 3,704,706.00
12/31/2020 695,295.00 444,565.00 250,730.00 3,453,976.00
12/31/2021 695,295.00 414,477.00 280,818.00 3,173,158.00
12/31/2022 695,295.00 380,779.00 314,516.00 2,858,642.00
12/31/2023 695,295.00 343,037.00 352,258.00 2,506,384.00
12/31/2024 695,295.00 300,766.00 394,529.00 2,111,855.00
12/31/2025 695,295.00 253,423.00 441,872.00 1,669,983.00
12/31/2026 695,295.00 200,398.00 494,897.00 1,175,086.00
12/31/2027 695,295.00 141,010.00 554,285.00 620,801.00
12/31/2028 695,295.00 74,496.00 620,799.00 -
 Lease-related Expense Dec. 31, 2020
Executory Cost 24,705.00
Depreciation Expense 440,000.00
Interest Expense 444,565.00
Total 909,270.00

Answers:
1 P 3,453,976.00
2 P 280,818.00
3 P 3,173,158.00
4 P 909,270.00

CASE 2

JACOMO COMPANY enters into a lease agreement with Lessor Co. on July 1, 2020, to lease a
machine to be used in its manufacturing operations.

The following data pertain to this agreement:

1. The term of the non-cancelable lease is 3 years, with no renewal option and no residual
value at the end of the lease term. Payments of P212, 024 are due on July 1 of each years,
beginning July 1, 2020.
2. The fair value of the machine on July 1, 2020, is P620, 000. The machine has a remaining
economic life of 5 years, with no salvage value. The machine reverts to the lessor upon
the termination of the lease.
3. Jacomo Company elects to depreciate the machine on the straight-line method.
4. Jacomo Company’s incremental borrowing rate is 10% per year, and it has no knowledge
of the implicit rate computed by the lessor.
5. The present value factor of an ordinary annuity of 1 for 3 periods at 10% per year is
2.48685. The present value factor of an annuity due of 1 for 3 periods at 10% is 2.73554.

How much lease liability should be recognized by Jacomo at the beginning of the lease
contract? 580,000.00
 Case 2

Annual Lease Payment 212,024.00

Multiply: PV of Annuity due of 1 2.73554
PV of Minimum Lease Payment 580,000.13

Finance Lease Liability 580,000.00

 Since PV of Minimum lease payment

is less than the Fair value of machine

Lesson 8

CASE 1

Libungan Company provided the following information concerning its defined benefit plan in
the trustee’s memorandum records on January 1, 2011:

Fair value of the plan assets 9,500,000

Unamortized past service cost 2,600,000

Projected benefit obligation (12,000,000)

Unrecognized actuarial gain (1,800,000)

Prepaid / accrued benefit cost – credit (1,700,000)

The transactions for the current year related to the defined benefit plan are:

Current service cost 1,800,000

Interest cost 1,300,000

Expected and actual return on plan assets 1,100,000

Contribution to the plan 2,700,000

Benefit paid to retirees 2,000,000

Increase in projected benefit obligation due to changes

in actuarial assumptions 280,000

Amortization period of past services cost and actuarial gain 10 years

Task: Prepare your audit working papers. Make sure it will answer the ff. questions:

1. What amount should be reported as benefit expense for the current year? P 2, 260, 000

2. What is the fair value of plan assets on December 31, 2011? P 11, 300,000

3. What is the projected benefit obligation on December 31, 2011? P 13, 460, 000

4. What is the net unrecognized actuarial gain on December 31, 2011? P 1,620,000

5. What is the balance of the prepaid/accrued benefit cost account on

December 31, 2011? P -2,340,000

FVPA

Beg. 9,500,000
Return on plan assets 1,100,000
Contribution to the plan 2, 700, 000
2,000,000 Benefits paid

11, 300,000 End.

Projected Benefit Obligation

12, 000, 000 Beg. PBO

1,800,000 Current Service
Cost
Benefit paid to retirees 2, 000, 000 260,000 Amortized past service cost
Recognized actuarial gain 180,000 1,300,000 Interest Cost
280, 000 Increase in PBO due to changes in actuarial assumptions

13, 460, 000 End.

 Service Cost 1, 800, 000
Interest Cost 1, 300, 000
Expected return on plan asset (1, 100, 000)
Amortized gain or loss 0
Amortized prior Service Cost 260, 000
Benefit Expense- Dec. 31, 2011 2, 260, 000

Unamortized Actuarial gain 1,800,000

Amortized Actuarial gain 180,000
Net unrecognized accrual
gain 1,620,000

Fair value of plant assets, Dec. 31, 2011 11, 300,000

less: Project benefit obligation, Dec. 31, 2011 13,640,000
Accrued Benefit Cost -2,340,000

Lesson 9
CASE 1

Honey Company has a herd of 10 2-year old animals on January 1, 2011. One animal aged 2.5
years was purchased on July 1, 2011 for P108, and one animal was born on July 1, 2011. No
animals were sold or disposed of during the year. The fair value less cost to sell per unit is as
follows:

2-year old animal on January 1 100

2.5-year old animal on July 1 108

New born animal on July 1 70

2-year old animal on December 31 105

2.5-year old animal on December 31 111

New born animal on December 31 72

3-year old animal on December 31 120

0.5-year old animal on December 31 80

Task: Create a working paper to document your audit. Make sure that the following questions
are answered by your audit working paper:

1. What is the fair value of the biological assets on December 31, 2011?

Fair value, 3-year old animal on December 31. (120 x 11) 1,320

0.5-year old animal on December 31. (80 x 1) 80

Fair value- December 31, 2011 P 140, 000

2. What is the gain from change in fair value of biological assets that should be
recognized in 2011?

Fair value of 10 animals on January 1. (10 x 100) 1,000

Acquisition cost- July 1, one animal 108
Carrying amount of biological assets P1, 108

Fair value on December 31 1,400

Less: Carrying amount 1,108
Gain from change in fair value P 292

3. What is the gain from change in fair value due to price change?

10, 2 year old animals (105-100=5 x 10) 50

1, 2.5 year old animal (111–108=3 x 1) 3

1 new born on July 1 (72-70=2 x 1) 2

Gain from price change P 55

 CASE 2

Farmland Company produces milk on its farms. The entity produces 20% of the community’s milk
that is consumed. Farmland Company owns 5 farms and had a stock of 2,100 cows and 1,050
heifers.

The farms produce 800,000 kilograms of milk a year and the average inventory held is 15,000
kilograms of milk. However, on December 31, 2011 the entity is currently holding 50,000
kilograms of milk in powder. On December 31, 2011, the biological assets are:

Purchased before January 1, 2011 (3 years old) 2,100 cows

Purchased on January 1, 2011 (2 years old) 300 heifers

Purchased on July 1, 2011 (1.5 years old) 750 heifers

No animal were born or sold during the current year. The unit fair value less cost to sell is as
follows:

January 1, 2011:

1-year old 3,000

2-year old 4,000

July 1, 2011:

1-year old 3,000

December 31, 2011:

1-year old 3,200

2-year old 4,500

1.5-year old 3,600

3-year old 5,000

The entity has had problems during the year. Contaminated milk was sold to customer. As a
result, milk consumption has gone down.

The entity’s business is spread over different parts of the country. The only region affected by
the contamination was Batangas. However, the cattle in this area were unaffected by the
contamination and were healthy. The entity feels that it cannot measure the fair value of the
cows in the region because of the problems created by the contamination. There are 600 cows
and 200 heifers in the Batangas farm and all these animals had been purchased on January 1,
2011.

Task: Create a working paper to document your audit. Make sure that the following questions
are answered by your audit working paper:

1. What is the fair value of biological assets on January 1, 2011?

= 9,300,000

2. What is the fair value of biological assets purchased on July 1, 2011?

= 2,250,000

3. What is the fair value of biological assets on December 31, 2011?

= 14,550,000

4. What is the increase in fair value of biological assets on December 31, 2011?

= 3,000,000

5. What is the increase in fair value of biological assets due to physical change?
= 1,740,000
SOLUTION:

Fair value of 1-year old 300 heifers 900,000

Fair value of 2-year old 2 100 cows 8,400,000
Fair value- January 1, 2011 9,300,000

Fair value of 3-year old 2 100 cows 10,500,000

Fair value of 2-year old 300 heifers 1,350,000
Fair value of 1.5-year old 750 heifers 2,700,000
Fair value, December 31,2011 14,550,000

Fair value, Dec. 31,2011 14,550,000

Fair value, Jan. 1,2011 11,550,000
Increase in fair value 3,000,000

Fair value of 3-year old 2 100 cows 1,050,000

Fair value of 2-year old 300 heifers 390,000
Fair value of 1.5-year old 750 heifers 300,000
Increase in fair value due to price change 1,740,000