Beams Aa13e TB 18

Advanced Accounting, 13e, Global Edition (Beams et al.
)
Chapter 18 Corporate Liquidations and Reorganizations
18.1 Multiple Choice Questions
1) When the bankruptcy court grants an order for relief under Chapter 7,
A) creditors may not seek payment for their claims directly from the debtor corporation.
B) the reorganization plan was accepted by creditors having at least one-half of the total number of claims
and the claims represent at least two-thirds of the total amount owed.
C) the bankruptcy court confirms that the reorganization plan is fair and equitable to creditors.
D) the court discharges the debtor except for those claims provided for in the reorganization plan.
Answer: A
Objective: LO18.2 Comprehend trustee responsibilities and accounting during liquidation.
Difficulty: Easy
AACSB: Analytical thinking
2) Which of the following must approve a Chapter 11 plan?

A) The organization's management and the assigned trustee
B) The assigned trustee and creditors
C) The assigned trustee and entity's stockholders
D) The bankruptcy court and the creditors
Answer: D
Objective: LO18.1 Understand differences among different types of bankruptcy filings.
Difficulty: Easy
3) When a corporation's total liabilities are greater than the fair value of total assets, the firm is
A) a distressed corporation.
B) a bankrupt corporation.
C) insolvent in the equity sense.
D) insolvent in the bankruptcy sense.
Answer: D
Difficulty: Easy
4) A bankruptcy petition filed by a firm's creditors is

A) a Chapter 2 petition.
B) a petition for liquidation.
C) an involuntary petition.
D) a voluntary petition.
Answer: C
Difficulty: Easy
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5) The duties of a debtor in possession in a Chapter 11 bankruptcy case do not include
A) filing a list of creditors and schedules of assets and liabilities with the bankruptcy court.
B) operating the business during the reorganization period.
C) filing a reorganization plan.
D) issuing an order of relief.
Answer: D
Difficulty: Easy
6) Chapter 7 bankruptcy cases differ from Chapter 11 bankruptcy cases because Chapter 7 bankruptcy
A) is involuntary.
B) requires a reorganization plan that is approved by the court.
C) requires the debtor corporation to file a list of creditors, schedule of assets and liabilities, and work
with a trustee.
D) leads to full liquidation of the bankrupt company.
Answer: D
Difficulty: Easy
7) In a liquidation under Chapter 7, the trustee

A) may not be appointed, but may only be elected.
B) may not be elected, but may only be appointed.
C) is responsible for converting assets to cash and distributing payments to claimants.
D) is responsible for appointing a creditors' committee.
Answer: C
Difficulty: Easy
8) A single creditor
A) can never file a petition for bankruptcy.
B) with a $15,775 or more secured claim may file a petition for bankruptcy.
C) with a $15,775 or more unsecured claim may file a petition for bankruptcy, if there are fewer than 12
unsecured creditors.
D) with a $14,425 or more unsecured claim may file a petition for bankruptcy if there are more than 12
unsecured creditors.
Answer: C
Difficulty: Easy
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9) A petition commencing a case against a corporate debtor
A) can be filed only under Chapter 7 of the bankruptcy act.
B) can be filed only under Chapter 11 of the bankruptcy act.
C) can be filed under either Chapter 7 or Chapter 11 of the bankruptcy act.
D) will be determined by the trustee whether it shall be Chapter 7 or Chapter 11 of the bankruptcy act.
Answer: C
Difficulty: Easy
10) A primary difference between voluntary and involuntary bankruptcy petitions is that
A) creditors file the petition in an involuntary filing.
B) trustees are not used in a voluntary filing.
C) voluntary petitions are not subject to review by the bankruptcy court.
D) the debtor corporation files the petition in an involuntary filing.
Answer: A
Difficulty: Easy
11) Creditor committees are elected

A) in all bankruptcy cases.
B) in Chapter 7 cases.
C) only in bankruptcy cases arising from involuntary petitions.
D) in Chapter 11 cases.
Answer: B
Difficulty: Easy
12) In a Chapter 7 bankruptcy case, what is the first-to-last ranking order of priority for payment? (Use
the following list of claim types.)
I. stockholder claims
II. unsecured priority claims
III. secured claims
IV. unsecured nonpriority claims
A) I, II, IV, and III

B) III, II, IV, and I
C) III, I, IV, and II
D) II, IV, III, and I
Answer: B
Difficulty: Easy
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13) Which of the following does not occur for a trustee in a Chapter 7 bankruptcy case?
A) Gains and losses on the sale of assets are debited to the estate equity account.
B) Unrecorded liabilities discovered by the trustee are debited to the estate equity account and credited to
the liability account.
C) Liquidation expenses are debited to the estate equity account.
D) An income statement is prepared showing gains and losses on sale of assets.
Answer: D
Difficulty: Easy
14) What is an advantage of filing a Chapter 11 petition?

A) The continuation of interest accrual on liabilities
B) Restrictions imposed by the bankruptcy court on day-to-day transactions
C) It is less costly than filing Chapter 7.
D) The opportunity to cancel unfavorable contracts
Answer: D
Objective: LO18.3 Understand financial reporting during reorganization.
Difficulty: Easy
15) Which condition must be met for fresh-start reporting for an emerging company from Chapter 11?
A) Holders of existing voting shares immediately before confirmation of the reorganization plan must
receive more than fifty percent of the emerging entity.
B) The loss of control by voting shareholders must be temporary.
C) The reorganization value of the emerging entity's assets immediately before the date of the
confirmation of the reorganization plan must be less than the total of all postpetition liabilities and
allowed claims.
D) The fresh-start entity must have a deficit.
Answer: C
Objective: LO18.4 Understand financial reporting after emerging from reorganization, including fresh-start
accounting.
Difficulty: Easy
16) A company emerging from bankruptcy will have a reorganization value that
A) approximates the book value of the entity's assets prior to bankruptcy.
B) approximates the book value of the entity prior to bankruptcy.
C) approximates the fair market value of the entity without considering liabilities.
D) approximates the fair market value of the entity's liabilities.
Answer: C
accounting.
Difficulty: Easy
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17) In a Chapter 11 case, the debtor corporation filing the petition may continue in possession of the
corporation's property, and is referred to as a(n)
A) examiner.
B) trustee.
C) liquidator.
D) debtor in possession.
Answer: D
Difficulty: Easy
18) Fresh-start reporting results in

A) a new reporting entity with no retained earnings/deficit balance.
B) a new reporting entity with a retained earnings/deficit balance equal to the reorganization value.
C) a continuation of the reorganized organization with no retained earnings/deficit balance.
D) a continuation of the reorganized organization with a retained earnings/deficit balance equal to the
reorganization value.
Answer: A
accounting.
Difficulty: Easy
19) An entity which qualified for fresh-start accounting is not required to disclose which of the following
items in their initial financial statements?
A) Adjustments from historical cost of assets and liabilities
B) Amount of debt of the prior entity forgiven
C) Amount of ending retained earnings/deficit of the prior entity
D) Changes to the management team from the prior entity
Answer: D
accounting.
Difficulty: Easy
20) Which of the following statements is correct concerning companies emerging from reorganization
under Chapter 11 when they do not qualify for fresh start accounting? The forgiveness of debt is reported
as
A) an operating gain.
B) a non-operating gain.
C) an extraordinary item.
D) an increase in contributed capital.
Answer: C
accounting.
Difficulty: Easy
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18.2 Exercises
1) Rank the following claims of an organization filing Chapter 7 bankruptcy from 1 to 4 based on the
following classifications. Each classification may be used more than once.
1. Secured Claims
2. Unsecured Priority Claims
3. Unsecured Nonpriority Claims
4. Stockholders' Claims
________ A. Claims for wages that are less than $11,725 per individual, earned within 90 days of filing
petition for bankruptcy.
________ B. Legal fees incurred after petitioning the court for Chapter 7.
________ C. Claim by the accounting firm for the audit fee from the prior year-end audit completed
two months prior to the bankruptcy filing.
________ D. Claims for employee benefit plan contributions that are less than $11,725 per individual
and relating to services rendered within 180 days of bankruptcy filing.
________ E. Claims with a valid lien against assets of the entity.
________ F. Claim by employee for commissions earned in 90 days prior to filing bankruptcy petition,
for the portion in excess of $11,725.
________ G. Administrative expenses of the estate, such as trustee fees.
________ H. Claim by a supplier for goods delivered on account.
________ I. Interest on unsecured claims.
________ J. Taxes owed to a government unit.
Answer: A. 2, B. 2, C. 3, D. 2, E. 1, F. 3, G. 2, H. 3, I. 3, J. 2
Difficulty: Moderate
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2) Alitech Corporation is liquidating under Chapter 7 of the Bankruptcy Act. The accounts of Alitech at
the time of filing are summarized as follows:
Estimated
Realizable
Book Value Value
Cash $ 10,000 $ 10,000
Accounts receivable-net 60,000 50,000
Inventory 110,000 65,000
Land 20,000 35,000
Building 200,000 126,000
Goodwill 22,000
$ 422,000
Accounts payable $ 120,000

Wages and salaries 30,000
Taxes payable 80,000
Accrued mortgage interest payable 22,000
Mortgage payable 100,000
Capital stock 90,000
Deficit (20,000)
$ 422,000
The land and building are pledged as security for the mortgage payable as well as any accrued interest on
the mortgage. Wages and salaries were earned within 90 days of filing the petition for bankruptcy and do
not exceed $11,725 per employee. Liquidation expenses are expected to be $30,000.
Required:
1. Prepare a schedule showing the priority rankings of the creditors and the expected payouts.
2. Billing Corporation was a supplier to Alitech Corporation and at the time of Alitech's bankruptcy
filing, Billing's account receivable from Alitech was $40,000. On the basis of the estimates, how much can
Billing expect to receive?
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Answer:
Requirement 1
Estimated
Amount Expected Remaining
of Claim Payment Cash
Estimated available cash $ 286,000
Secured claims:
Mortgage payable & interest $ 122,000 $ 122,000 $ 164,000
Unsecured priority claims:

Estimated liquidation expenses 30,000 30,000 134,000
Wages and salaries 30,000 30,000 104,000
Taxes payable 80,000 80,000 24,000
Unsecured nonpriority claims:

Expected return on the dollar for unsecured nonpriority claims:

$24,000/$120,000 = $.20 on the dollar
Requirement 2
Billing's estimated return: $40,000 claim × $.20 = $8,000

AACSB: Application of knowledge
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3) CommTex Corporation is liquidating under Chapter 7 of the Bankruptcy Act. The accounts of
CommTex at the time of filing are summarized as follows:
Estimated
Realizable
Book Value Value
Cash $ 80,000 $ 80,000
Inventory 80,000 60,000
Land 10,000 20,000
Building-net 150,000 110,000
Equipment-net 60,000 40,000
Goodwill 10,000 0
$ 440,000

Wages and salaries 20,000
Contributions due to pension plan 10,000
Accrued interest payable (includes 10,000
$8,000 from the mortgage payable and
$2,000 from the note payable)
Note payable 120,000
Deficit (70,000)
$ 440,000
the mortgage. The note payable is secured with the equipment, but the interest on the note is unsecured.
Wages and salaries were earned within 90 days of filing the petition for bankruptcy and pension plan
contributions relate to services rendered within 6 months of filing the petition for bankruptcy; neither
exceeds $4,000 per employee. Liquidation expenses are expected to be $40,000.
Required:
2. Devendor Corporation was a supplier to CommTex Corporation and at the time of CommTex's
bankruptcy filing, Devendor's account receivable from CommTex was $25,000. On the basis of the
estimates, how much can Devendor expect to receive?
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Answer:
Requirement 1
Estimated
Secured claims:
Partially secured claims:

Note payable ($80,000
reclassified as unsecured) 120,000 40,000 212,000

Pension fund liability 10,000 10,000 142,000
Taxes payable 60,000 60,000 82,000

Accounts payable $ 120,000 49,200
Unsecured portion of note payable 80,000 32,800
Accrued interest on note payable 2,000 0
Expected return on the dollar for unsecured nonpriority claims for Accounts payable and unsecured
portion of note payable:
$82,000/$200,000 = $.41 on the dollar
Requirement 2
Devendor's estimated return: $25,000 claim × $.41 = $10,250

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4) Ending Company is in bankruptcy and is being liquidated under the provisions of Chapter 7 of the
bankruptcy code. The trustee has converted all assets into $80,000 cash (which includes the amounts
shown below for assets sold) and has prepared the following list of approved claims:
Property taxes payable $ 10,000
Accounts payable, unsecured 30,000
Mortgage payable, secured by property that was sold for $50,000 30,000
Note payable to bank, secured by all accounts receivable of which $20,000

was able to be collected and the balance was written off 30,000
Required:
How much will the bank receive on the note payable?
Answer: Cash $ 80,000
Mortgage payable, paid in full (30,000)
50,000
Note payable to bank, secured portion (20,000)
30,000
Priority claims ($10,000 property tax) (10,000)
Available for unsecured nonpriority claims $ 20,000
Unsecured, nonpriority claims:

Unsecured portion of note payable to bank $ 10,000
Accounts payable 30,000
Total unsecured, nonpriority claims $ 40,000
$20,000 cash/$40,000 claims = $.50 on the dollar
Amount paid to bank:

$20,000 for secured portion + ($10,000 × .50) for unsecured portion = $ 25,000
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5) Finale Company is in bankruptcy and is being liquidated under the provisions of Chapter 7 of the
bankruptcy code. The trustee has converted all assets into $180,000 cash and has prepared the following
list of approved claims:
Customer deposits ($1,000 from each of three customers

that ordered products that were never delivered) $ 3,000
Property taxes payable 6,000
Accounts payable, unsecured 45,000
Trustee's fees and other costs of liquidation 24,000
Mortgage payable, secured by property that was sold for $120,000 90,000
Note payable to bank, secured by all accounts receivable of which $45,000

were collected and $15,000 were written off as uncollectible 60,000
Required:
How much will the bank receive on the note payable?
Answer:
Cash $ 180,000
Mortgage payable, paid in full (90,000)
90,000
Note payable to bank, secured portion (45,000)
45,000
Priority claims ($24,000 of administrative costs +
$3,000 of customer deposits + $6,000 property tax) (33,000)
Available for unsecured nonpriority claims $ 12,000
Unsecured, nonpriority claims:

Unsecured portion of note payable to bank $ 15,000
Accounts payable 45,000
Total unsecured, nonpriority claims $ 60,000
$12,000 cash/$60,000 claims = $.20 on the dollar
Amount paid to bank for note payable:

$45,000 for secured portion + ($15,000 × .20) for unsecured portion = $ 48,000
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6) Gonne Corporation is being liquidated under Chapter 7 of the Bankruptcy Act. The trustee has
determined that the unsecured claims will receive $.35 on the dollar. Odemay Corporation holds a
$100,000 mortgage note receivable from Gonne that is secured by equipment with a $120,000 book value
and a $75,000 fair value.
Required:
How much of the mortgage receivable will be recovered by Odemay?
Answer:
Mortgage note receivable $ 100,000
Less: Portion secured by equipment (75,000)
Unsecured portion $ 25,000
Estimated recovery on secured portion $ 75,000

Estimated recovery on unsecured portion
($25,000 × $.35) = 8,750
Recovery on mortgage note receivable $ 83,750
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7) Kline Corporation incurred major losses in 2014 and entered into voluntary Chapter 7 bankruptcy in
the early part of 2015. By July 1, all assets were converted into cash, the secured creditors were paid, and
$122,700 in cash was left to pay the remaining claims as follows:

Claims incurred between the date of filing an involuntary 5,000
petition and the date an interim trustee is appointed
Property taxes payable 8,000
Wages payable (all under $10,000 per employee; 74,000
earned within 90 days of filing bankruptcy petition)
Unsecured note payable 19,000
Accrued interest on the note payable 2,000
Administrative expenses of the trustee 12,180
Total $ 157,180
Required:
Classify the claims by their Chapter 7 priority ranking, and analyze which amounts will be paid and
which amounts will be written off.
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Answer:
Requirement 1:

Claim To be Cash
Amount Paid Left
Estimated cash available $ 122,700
Administrative expenses $ 12,180 $ 12,180 110,520
Claims prior to the trustee's appointment 5,000 5,000 105,520
Wages payable 74,000 74,000 31,520
Property taxes payable 8,000 8,000 $ 23,520
Payout ratio:
$23,520 /($37,000 + $19,000) = 42%
Unsecured Nonpriority Claims: Claim To be Written

Amount Paid Off
Accounts payable $ 37,000 $ 15,540 $ 21,460*
Unsecured note 19,000 7,980 11,020**
Accrued interest on the note 2,000 0 2,000
* $37,000 × 42% = $15,540

**$19,000 × 42% = $ 7,980
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8) Lesher Corporation lost their primary contract and entered into voluntary Chapter 7 bankruptcy in the
early part of 2014. By July 1, all assets were converted into cash, the secured creditors were paid, and
$124,500 in cash was left to pay the remaining claims as follows:

Claims incurred between the date of filing an involuntary
bankruptcy petition and the date an interim trustee is appointed 8,000
Payroll taxes withheld 14,000
Wages payable (all under $10,000 per employee; earned within
90 days of filing bankruptcy petition) 56,000
Unsecured note payable 37,500
Accrued interest on the note payable 2,000
Administrative expenses of the trustee 22,000
Total $ 189,500
Required:
Classify the claims by their Chapter 7 priority ranking, and analyze which amounts will be paid and
which amounts will be written off.
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Answer:
Requirement 1:
Claim To be Cash
Amount Paid Left
Estimated cash available $ 124,500
Administrative expenses $ 22,000 $ 22,000 102,500
Claims prior to the trustee's appointment 8,000 8,000 94,500
Wages payable 56,000 56,000 38,500
Payroll taxes withheld 14,000 14,000 $ 24,500
Payout ratio:
$24,500/($50,000 + $37,500) = 28%
Unsecured Nonpriority Claims:

Claim To be Written
Amount Paid Off
Accounts payable $ 50,000 $ 14,000 $ 36,000*
Unsecured note 37,500 10,500 27,000**
Accrued interest on the note 2,000 0 2,000
* $50,000 × 28% = $14,000

**$37,500 × 28% = $10,500
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9) Moddle Corporation is being liquidated under Chapter 7 of the Bankruptcy Act. The trustee has
determined that the unsecured claims will receive $.20 on the dollar. National Corporation holds a
$500,000 mortgage note receivable from Moddle that is secured by equipment with a $550,000 book value
and a $430,000 fair value.
Required:
How much of the mortgage receivable will National recover?
Answer: Mortgage note receivable $ 500,000

($70,000 × $.20) = 14,000
10) DeFunk Corporation is being liquidated under Chapter 7 of the Bankruptcy Act. The trustee has
determined that the unsecured claims will receive $.18 on the dollar. Magma Corporation holds a
$200,000 mortgage receivable from DeFunk that is secured by the land and buildings with a book value of
$180,000 and a fair value of $190,000. Magma also holds an $80,000 unsecured note receivable from
Defunk. Mortgage interest owed, which is secured with the mortgage note, is $4,000. Note interest owed,
which is unsecured, is $2,000.
Required:
How much of the amounts owed will Magma recover?
Answer: Mortgage note receivable + interest $ 204,000
Less: Portion secured by land and buildings (190,000)

($14,000 + $80,000 note) × $.18 = 16,920
Recovery on amounts owed to Magma $ 206,920
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11) Trustin Corporation is in a Chapter 7 bankruptcy liquidation. For each of the following transactions,
show the journal entry that would be required by the trustee of the estate.
1. An electric bill is received for $1,000 which had not yet been recorded by Trustin.
2. Inventory recorded net at $18,000 is sold for $16,000 cash.
3. Recorded patents in the amount of $7,000 are determined to be worthless and are written off.
4. Equipment recorded net at $24,000 is sold for $20,000 cash.
5. A building recorded net at $78,000 is sold for $87,000 cash.
6. Trustee fees of $2,500 are accrued.
7. The fully secured mortgage is paid in the amount of $70,000.
8. Wages payable that were recorded in the amount of $9,000 are paid.
9. An equipment lease, which was recorded as prepaid equipment lease, is cancelled and a $1,500
refund is received.
10. Accounts receivable amounting to $12,000 are collected, and an additional $3,000 is determined to be
uncollectible.
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Answer:
1. Estate Equity $ 1,000
Electric payable - new $ 1,000
2. Cash 16,000
Estate Equity 2,000
Inventory 18,000
3. Estate Equity 7,000

Patents 7,000
4. Cash 20,000
Estate Equity 4,000
Equipment 24,000
5. Cash 87,000
Estate Equity 9,000
Building 78,000
6. Estate Equity 2,500

Trustee fee payable - new 2,500
7. Mortgage Payable 70,000

Cash 70,000
8. Wages Payable 9,000

Cash 9,000
9. Cash 1,500
Prepaid Equipment Lease 1,500
10. Cash 12,000

Estate Equity 3,000
Accounts Receivable 15,000
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12) Dip Corporation is in a Chapter 11 bankruptcy reorganization. For each of the following transactions
relating to the reorganization, show the journal entry that would be required by Dip. Assume that all
unsecured liabilities were not reclassified to Prepetition Claims Subject to Compromise.
1. Dip has $200,000 in bonds payable which mature at the end of the current year. The bondholders
agree to accept $100,000 of new common stock and $75,000 cash, payable immediately.
2. Accrued interest on the bonds recorded at $20,000 will not be paid.
3. Recorded patents in the amount of $15,000 are determined to be worthless and are written off.
4. Equipment recorded net at $24,000 is appraised at $30,000.
5. A building recorded net at $78,000 is appraised for $87,000.
6. Creditors owed $120,000 recorded in accounts payable are paid $96,000 in full settlement.
7. Property taxes and payroll taxes withheld are paid in full at $12,000.
8. A capital lease recorded at $48,000 is re-negotiated, and the resulting operating lease will require
monthly lease payments of $500.
9. An unsecured bank note amounting to $180,000 will be exchanged for $120,000 note secured by the
building and equipment.
10. Current stockholders will exchange their stock which has a current book value of $300,000 for
$100,000 common stock of the new entity.
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Answer:
1. Bonds Payable $ 200,000
Common Stock $ 100,000
Cash 75,000
Gain on Debt Discharge 25,000
2. Accrued Interest Payable 20,000

3. Loss on Asset Revaluation 15,000

Patents 15,000
4. Equipment 6,000
Gain on Asset Revaluation 6,000
5. Building 9,000
Gain on Asset Revaluation 9,000
6. Accounts Payable 120,000

Cash 96,000
7. Taxes Payable 12,000

Cash 12,000
8. Capital Lease Liability 48,000

9. Debt - Unsecured 180,000

Debt - Secured 120,000
10. Common Stock (old) 300,000

Common Stock (new) 100,000
Additional Paid in Capital 200,000
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13) Faled Company has the following assets and liabilities, stated at fair value in liquidation.
Assets pledged with secured creditors $ 100,000

Assets pledged with partially secured creditors 75,000
Other assets 160,000
Secured liabilities 50,000
Partially secured liabilities 110,000
Unsecured liabilities with priority 80,000
Unsecured liabilities 215,000
Required:
Determine the amount of cash that will be available to pay unsecured creditors, and the percentage of
unsecured liabilities that will be paid.
Answer:
Cash available:
Secured assets in excess of secured liabilities
($100,000 - $50,000) $ 50,000
Other assets 160,000
210,000
Less: Liabilities with priority (80,000)
Cash available for unsecured creditors $ 130,000
Percentage of unsecured liabilities that will be paid:

Cash available $ 130,000
/ Unsecured liabilities including unsecured
portion of partially secured liabilities
($215,000 + ($110,000 - $75,000)) /250,000
= 52%
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14) Gargantuan Bank has loaned money in two separate loans to Little Company, which is now in
Chapter 7 bankruptcy. Little Company has the following assets and liabilities, stated at fair value in
liquidation.
Assets pledged with secured creditors $ 190,000

Assets pledged with partially secured creditors 70,000
Other assets 30,000
Secured debt to Gargantuan 130,000
Partially secured debt to Gargantuan 110,000
Unsecured liabilities with priority 50,000
Unsecured liabilities 160,000
Required:
Determine the amount of cash that Gargantuan will collect from these two pieces of debt.
Answer:
Cash available:
Secured assets in excess of secured liabilities
($190,000 - $130,000) $ 60,000
Other assets 30,000
90,000
Less: Liabilities with priority (50,000)
Cash available for unsecured creditors $ 40,000
Percentage of unsecured liabilities that will be paid:

Cash available $ 40,000
/ Unsecured liabilities including unsecured
portion of partially secured liabilities
($160,000 + ($110,000 - $70,000)) /200,000
= 20%
Gargantuan will collect:

Secured debt $ 130,000
Partially secured debt
Secured portion 70,000
Unsecured portion ($40,000 × 20%) 8,000
$ 208,000
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15) Aqua Corporation filed a petition under Chapter 7 of the bankruptcy act in January, 2014. On
February 28, the following information was presented regarding Aqua's financial status.
Book Values Fair Values

Cash $ 50,000 $ 50,000
A/R - net 100,000 90,000
Inventories 80,000 60,000
Fixed Assets - net 200,000 230,000
Priority Claims 80,000

A/P 100,000
N/P 110,000
Mortgage Payable 200,000
The Note Payable is secured by Accounts Receivable, and the Mortgage Payable is secured by the Fixed
Assets.
Required:
Calculate the amount expected to be available for unsecured claims and the percentage recovery that the
unsecured class should expect to receive.
Answer:
Cash available to pay claims: $ 430,000
Less: Secured claims (200,000)
Less: Partially secured claims (90,000)
Less: Priority claims (80,000)
Cash available for unsecured claims $ 60,000
Cash available for unsecured claims $ 60,000

Unsecured claims ($100,000 + $20,000) 120,000
Percentage recovery ($60,000/$120,000) 50%
16) Rank the following claims 1 through 5, with 1 being the first priority claim, under Chapter 7 of the
bankruptcy code.
________ A. Trustee fees for administration of the estate.

________ B. Accounts payable for goods delivered prior to filing an involuntary petition for bankruptcy
________ C. Customer deposits for services never rendered.
________ D. First mortgage on the company's real estate.
________ E. Income taxes owed for the prior year.
Answer: A. 2, B. 5, C. 3, D. 1, E. 4
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17) Oceana Corporation is being liquidated under Chapter 7 of the Bankruptcy Act. The trustee has
determined that the unsecured claims will receive $.35 on the dollar. Loans-R-Us holds a $1,000,000
mortgage note receivable from Oceana that is secured by building and equipment with a $1,200,000 book
value and a $900,000 fair value.
Required:
How much of the mortgage receivable will Loans-R-Us recover?
Answer: Mortgage note receivable $ 1,000,000
Less: Portion secured by equipment and building (900,000)

($100,000 × $.35) = 35,000
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18) Pasten Corporation is liquidating under Chapter 7 of the Bankruptcy Act. The accounts of Pasten at
the time of filing are summarized as follows:
Estimated
Realizable
Book Value Value
Cash $ 65,000 $ 65,000
Inventory 280,000 190,000
Land 20,000 28,000
Building 210,000 220,000
Goodwill 595,000 0
$ 1,185,000

Wages and salaries payable 21,000
Accrued mortgage interest payable 16,000
Deficit (68,000)
$ 1,185,000
the mortgage. Wages and salaries were earned within 90 days of filing the bankruptcy petition and do not
exceed $10,000 per employee. Liquidation expenses are expected to be $35,000.
Required:
2. Yuomi Corporation was a supplier to Pasten Corporation and at the time of Pasten's bankruptcy
filing, Yuomi's account receivable from Pasten was $500,000. On the basis of the estimates, how much can
Yuomi expect to receive?
27
Answer:
Requirement 1
Estimated
Secured claims:

Taxes payable 12,000 12,000 200,000

Accounts payable $ 800,000 186,880
Mortgage payable 56,000 13,082
Accrued interest 16,000 0
Expected return on the dollar for unsecured nonpriority claims:

$200,000/$856,000 = $.2336 on the dollar
Requirement 2
Yuomi's estimated return: $500,000 claim × $.2336 = $116,800

28
19) Hilfmir Corporation filed for Chapter 11 bankruptcy on January 1, 2014. A summary of their financial
status is shown below on June 30, 2014, at the date of the approved reorganization, along with the fair
value of their assets.
Per Books Fair Value

Cash $ 134,000 $ 134,000
A/R - net 20,000 20,000
Inventory 32,000 40,000
Plant Assets - net 114,000 106,000
Patent 80,000 0
$ 380,000
A/P $ 60,000
Wages Payable 20,000
Prepetition liab. 250,000
Common Stock 140,000
Deficit (90,000)
$ 380,000
Under the reorganization plan, the reorganization value has been set at $320,000. Prepetition liabilities
include $30,000 of trade Accounts Payable and a $220,000 Note Payable to Bigg Bank. The reorganization
plan calls for the Prepetition accounts payable to be paid at 80% at a later date, and the Note Payable for
$220,000 to be replaced by a Note Payable for $76,000 and the issuance of common stock of the new entity
for $100,000. The former stockholders will receive $40,000 in common stock of the new entity, Hilfmir, in
exchange for their shares.
Required:
Show the calculations to determine if Hilfmir is eligible for fresh-start accounting, and prepare a fresh-
start balance sheet for the new entity, Hilfmir, as of July 1, 2014.
29
Answer: Liabilities at 7/1/14 = $330,000 which is greater than the reorganization value of $320,000, and
common stock of the new entity has been issued 71% to the prepetition creditors and 29% to the former
stockholders, so that the former stockholders have less than a 50% interest in the new entity. So, Hilfmir
is eligible for fresh-start accounting.
Hilfmir Company
Opening Balance Sheet
As of July 1, 2014
Cash $ 134,000
A/R - net 20,000
Inventory 40,000
Plant Assets - net 106,000
Reorganization value in excess of
identifiable assets 20,000
$ 320,000
A/P - new $ 60,000

A/P - old 24,000
Wages Payable 20,000
Note Payable - new 76,000
Common Stock - new 140,000
$ 320,000
accounting.
20) Ohio Corporation is being liquidated under Chapter 7 of the Bankruptcy Act. The trustee has
determined that the unsecured claims will receive $.05 on the dollar. Lender Bank holds a $100,000
mortgage note receivable from Ohio that is secured by equipment with a $120,000 book value and a
$90,000 fair value, and a second mortgage on the same equipment amounting to $50,000.
Required:
How much of the mortgage receivable will be recovered by Lender?
Answer:
Mortgage notes receivable $ 150,000

($60,000 × $.05) = 3,000
30
18.3 True/False
1) When total debts exceed the fair value of total assets it is referred to as equity insolvency.
Answer: FALSE
Difficulty: Easy
2) The inability to make payments on time is equity insolvency.

Answer: TRUE
Difficulty: Easy
3) Chapter 7 bankruptcy appoints a trustee to sell off the assets of the company and pay claims to its
creditors.
Answer: TRUE
4) U.S. Trustees are appointed by the Attorney General to handle the administrative duties of bankruptcy
cases.
Answer: TRUE
Difficulty: Easy
5) In the case of Chapter 7 Liquidation, the stockholders are the first to have their claims satisfied.
Answer: FALSE
6) In the bankruptcy process a statement of affairs is prepared and filed by the trustee. The statement of
affairs shows the income statement information.
Answer: FALSE
7) A statement of realization and liquidation is an activity statement that shows progress toward the
liquidation of a debtor's estate.
Answer: TRUE
Difficulty: Easy
31
8) In cases of Chapter 11, a private trustee or a debtor in possession can be appointed to oversee the
reorganization.
Answer: TRUE
Difficulty: Easy
9) An executory contract is one that has been completely performed but not settled in terms of payment.
Answer: FALSE
10) The doctrine of equitable subordination allows judges to move unsecured creditors ahead of secured
creditors in bankruptcy proceedings in the interest of "fairness".
Answer: TRUE
accounting.
32

Beams Aa13e TB 18

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Advanced Accounting, 13e, Global Edition (Beams et al.

18.1 Multiple Choice Questions

2) Which of the following must approve a Chapter 11 plan?

4) A bankruptcy petition filed by a firm's creditors is

7) In a liquidation under Chapter 7, the trustee

11) Creditor committees are elected

A) I, II, IV, and III

14) What is an advantage of filing a Chapter 11 petition?

18) Fresh-start reporting results in

Accounts payable $ 120,000

Unsecured priority claims:

Unsecured nonpriority claims:

Expected return on the dollar for unsecured nonpriority claims:

Billing's estimated return: $40,000 claim × $.20 = $8,000

Accounts payable $ 120,000

Partially secured claims:

Unsecured priority claims:

Unsecured nonpriority claims:

Devendor's estimated return: $25,000 claim × $.41 = $10,250

Objective: LO18.2 Comprehend trustee responsibilities and accounting during liquidation.

Property taxes payable $ 10,000

Accounts payable, unsecured 30,000

Note payable to bank, secured by all accounts receivable of which $20,000

Unsecured, nonpriority claims:

$20,000 cash/$40,000 claims = $.50 on the dollar

Amount paid to bank:

Customer deposits ($1,000 from each of three customers

Property taxes payable 6,000

Accounts payable, unsecured 45,000

Trustee's fees and other costs of liquidation 24,000

Note payable to bank, secured by all accounts receivable of which $45,000

Unsecured, nonpriority claims:

$12,000 cash/$60,000 claims = $.20 on the dollar

Amount paid to bank for note payable:

Estimated recovery on secured portion $ 75,000

Accounts payable $ 37,000

Unsecured priority claims:

Administrative expenses $ 12,180 $ 12,180 110,520

Claims prior to the trustee's appointment 5,000 5,000 105,520

Wages payable 74,000 74,000 31,520

Property taxes payable 8,000 8,000 $ 23,520

Unsecured Nonpriority Claims: Claim To be Written

Accounts payable $ 37,000 $ 15,540 $ 21,460*

Unsecured note 19,000 7,980 11,020**

Accrued interest on the note 2,000 0 2,000

* $37,000 × 42% = $15,540

Accounts payable $ 50,000

Administrative expenses $ 22,000 $ 22,000 102,500

Claims prior to the trustee's appointment 8,000 8,000 94,500

Wages payable 56,000 56,000 38,500

Payroll taxes withheld 14,000 14,000 $ 24,500

Unsecured Nonpriority Claims:

Accounts payable $ 50,000 $ 14,000 $ 36,000*

Unsecured note 37,500 10,500 27,000**

Accrued interest on the note 2,000 0 2,000

* $50,000 × 28% = $14,000

Estimated recovery on secured portion $ 430,000

Estimated recovery on secured portion $ 190,000

2. Inventory recorded net at $18,000 is sold for $16,000 cash.

4. Equipment recorded net at $24,000 is sold for $20,000 cash.

5. A building recorded net at $78,000 is sold for $87,000 cash.

6. Trustee fees of $2,500 are accrued.

7. The fully secured mortgage is paid in the amount of $70,000.