Unit I –

Audit of Property, Plant and Equipment

Learning Outcomes

At the end of the unit, the student should be able to:

a. Enumerate and memorize the Philippine Auditing Standards for property

and equipment.

b. Identify the internal control procedures for property and equipment

c. Apply the following audit techniques in the audit of property and equipment

1. the substantive tests of balances

2. analytical procedures

d. Solve problems using audit working papers

e. Prepare audit adjustments

Problem 1 – Audit of Land and Building

During the course of your audit of the financial statements of Briggs, Inc. which was organized in
June, 2017, the following accounts appeared in the general ledger at the date of the audit, December 31,
2017

FIXED ASSETS

Date Item Debits

2017
June 1 Organization Fees Php 3,000
1 Bond discount on Php 1,000,000 of ten year 6 5 bonds 6,000
16 Land site and existing building: building value
500,000
Php30,000
30 Corporate organization costs 5,000
30 Title clearance fees 4,000
July 31 Net cost of razing existing building 7,000
Dec. 1 Bond interest, six months 30,000
15 Salaries of executives (no participation in construction) 50,000
15 Share bonus to corporate promoters; 4,000 shares at
40,000
Php10 par per share
15 Real estate tax for six months ended December 31,
7,000
2017, on land on land
15 Cost of new building paid to Arcose, Inc. 2,000,000

REQUIRED:

Prepare audit adjustments without explanation to close out the Fixed Assets Account.

Suggested Solution:

Adjusting Journal Entries - 12/31/17

12.31.2017 Particulars Debit Credit

1) Organization costs 3,000
Fixed assets 3,000

2) Discount on bonds payable 5,650

Interest expense 350
Fixed assets 6,000

3) Land 500,000
Fixed assets 500,000

4) Organization costs 5,000

Fixed assets 5,000

5) Land 4,000
Fixed assets 4,000

6) Land 7,000
Fixed assets 7,000

(7) Interest expense 30,000

Fixed assets 30,000

(8) Salaries expense 50,000

Fixed assets 50,000

(9) Organization costs 40,000

Fixed assets 40,000
(10) Taxes and licenses 7,000
Fixed assets 7,000

(11) Building 2,000,000

Fixed assets 2,000,000

Problem 2 – Acquisition – Delivery Truck

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 H Company is a major supplier of computer parts and accessories. To improve delivery services
to customers, the company acquired four new trucks on July 1, 2018. Described below are the terms of
acquisition of each truck.

TRUCK LIST PRICE TERMS

1 Php 600,000
2 800,000
3 640, 000
4 560,000
Acquired fir a cash payment of Php556,000
Acquired for a down payment of Php80,000 cash and
a 1 year, non - interest bearing, note with a face
amount of Php 720,000. There was no established
cash price for the equipment. The prevailing interest
rate for this type of note is 10%.
Acquired in exchange for a computer package that
the company carries in inventory. The computer
package cost Php480,000 and is normally sold by H
Company for Php608,000.
Acquired by issuing 40,000 o fH Company ordinary
shares. The shares have a par value per share of
Php10 and a market value per share of Php13.

REQUIRED:
What is the total cost of the trucks purchased?

SOLUTION:

Truck 1 Php 556,000

Truck 2 Down payment Php 80,000

Present value of note issued
654,545 734,545
(Php720,000 x 0.90909)
Truck 3 608,000
Truck 4 (Php13 x 40,000 shares) 520,000
Total 2,418,545

2a – Acquisition/Self Construction of PPE

The following independent situations relate to the acquisition/self - construction of various

property, plant and equipment items:

1. BRADPIT, Inc. has constructed a production equipment needed for the company’s expansion
program. Bradpit received Php1,500, bid from a reputable manufacturer for the construction
of the equipment.

The costs of direct material and direct labor incurred to construct the equipment were
Php960,000 and Php600,000 respectively. It is estimated that incremental overhed costs for
construction amount to 140% of direct labor costs.

Fixed costs (excluding interest) of Php2,100,000 were incurred during the construction period.
The amount was allocated to construction on the basis of total prime costs – the sum of direct
labor and direct material. The prime costs incurred to construct the new equipment amounted
to 35% of the total prime costs incurred for the period. The company’s policy is to capitalize
all possible costs on self – construction projects.

To assist in financing the construction of the production equipment, Bradpit borrowed

Php1,500,000 million at the beginning of the 6 – month construction period. The loan was for
2 years with interest at 10%.

Required:
What is the total cost of the self-constructed equipment?
Solution:

Direct Materials Php 960,000

Direct Labor 600,000
Variable Overhead
840,000
(Php600,000x140%)
Fixed overhead (Php2,100,000 x 35%) 735,000
Interest on specific borrowing
75,000
(Php1,5000 x 10% x 6/12)
Ph
Total cost of self –constructed equipment 3,210,000
p

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Problem 3 - Correcting Entries for PPE

The following are PPE acquisitions for selected companies.

1. FH Company acquired land, buildings, and equipment from a financially distressed company,
B Corporation for a lump sum price of Php2,800,000. On the acquisition date C Corp. assets
had the following book and fair value.

BOOK VALUES FAIR VALUES

Land Php 800,000 Php 600,000
Buildings 1,000,000 1,400,000
Equipment 1,200, 000 1,200,000

FH Company decided to take a conservative position by recording the lower of the two value
for each PPE item acquired. The following entry was made:

Land Ph 600,000
p
Buildings 1,000,000
Equipment 1,200,000
Cash Ph 2,800,000
p

2. T, Inc. purchased factory equipment by making a Php200,000 cash down payment and
signing a 3-year Php300,000, 10% note payable. The acquisition was recorded as follows:

Factory Equipment Php 530,000

Cash Ph 200,000
p
Note Payable 300,000
Interest Payable 30,000

3. U Co. purchased store equipment for Php800,000, terms 2/10, n/30. The company tool the
discount and made the following entry when it paid for the acquisition:

Store Equipment Php 800,000

Cash Ph 784, 000
p
Purchase discount 16,000

4. F Corp. constructed a building at a total cost of Php43,000,000. The building could have been
purchased for Php45,000,000. The company’s controller made the following entry:

Building Php 45,000,000

Cash Php 43,000,000
Profit on Construction 2,000,000

REQUIRED:

Prepare the necessary correcting entry for each acquisition.

SOLUTION:
Adjusting Entry (1)

Building Php 225,000

Land Php 75,000
Equipment 150,000

Computation

Amount Adjustment
Fair Value Allocated Cost*
Recorded Dr. (Cr.)
Land Php 600,000 Php 525,000 Php 600,000 Php (75,000)
Buildings 1,400,000 1,225,000 1,000,000 225,000

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 Equipment 1,200,000 1,050,000 1,200,000 (150,000)
Totals Php 3,200,000 Php 2,800,000 Php 3,200,000 Php =

*Land (Php600,000/3,200,000 x Php2,800,000) Php 525,000

Buildings (Php1,400,000/3,200,000 x Php 2,800,000) 1,225,000
Equipment (Php1,200,000/3,200,000 x Php2,800,000) 1,050,00

The total acquisition price of assets acquired at a “lump sum price” should be allocated to
the assets on the basis of their relative fair value.
Adjusting Entry (2)
Interest Payable Php 30,000
Factory Equipment Php 30,000

The interest on the note payable issued should be recognized as interest expense
over the term of the note.

Adjusting Entry (3)

Purchase Discount Php 16,000
Store Equipment Php 16,000

An item of PPE acquired on credit (or on account) should be recognized net of any cash
discount, irrespective of whether the discount is taken or not.

Adjusting Entry (4)

Profit on construction Php 2,000,000
Buildings Php 2,000,000

The cost of a self-constructed asset is determined by applying the same principles as for
an acquired asset. Any internal profit is eliminated to arrive at the cost of the asset.

The “profit” recognized by the company is actually a saving on construction that can be
realized through lower depreciation charges on the asset,

ASSIGNMENT

1. At December 31, 2017, certain accounts included in the in the property, plant and equipment section
of the Tatty Company Company’s statement of financial position had the following balances:

Land Php 100,000 Leasehold Improvements Php 500,000

Buildings 800,000 Machinery and Equipment 700,000

During 2018 the following transactions occurred:

1. Land site number 621 was acquired for Php1,000,000> Additionally, to acquire land Tatty paid a
Php60,000 commission to a real estate agent. Costs of Php15,000 were incurred to clear the
land. During the course of clearing the land, timber and gravel were recovered and sold for
Php5000.

2.