CPA REVIEW SCHOOL OF THE PHILIPPINES AP-7604 Manila AUDITING PROBLEMS CPA Review AUDIT OF INTANGIBLE ASSETS PROBLEM NO. 1 The following independent situations relate to the audit of intangible assets. Answer the questions at the end of each situation. (CABOOM LABORATORIES holds a valuable ‘patent (No. 112170) on a device that prevents certain types of air pollution. Caboom does not manufacture or sell the products and processes it develops; it conducts research and develops products which it patents, and then assigns the patents to manufacturers on a royalty basis. The history of Patent No. 112170 Is as follows: Date Activity Cost 2004-2005 Research conducted to develop device E P1,259,100 Jan. 2006 Design and construction of a prototype 262,800 Mar. 2006 Testing of models E Tae 126,000 Jan. 2007 Legal and other fees to process patent application; patent granted June 2007 186,150. 2@94¢4 Nov. 2008 Engineering activity necessary to advance the design of the device to the manufacturing stage 244,500 April 2010 Research aimed at modifying the design of the patented device 129,000 May 2014 Legal fees peid in a successful patent infringement suit against a Competitor 102,000 Caboom assumed a useful life of 47 yea) when It received the initial device patent. “On January 1, 2012, it revised its useful lifé estimate downward to 5 remaining years. Amortization is computed for a full year if the cost is incurred prior to July 1”and no amortization for the year if the cost is incurred after June 30. Caboom’s reporting date is December 31, 2014. Compute the carrying value of Patent No, 112170 on each of the following dates: DD. 1. December 31, 2007 Uv * A. P180,675 B. P186,150 C. P293,788 ,,. Bs P175,200 WolSoxX 1 ~ (2. December 31, 2011 ~ A. P223,200 B. 52,560 C. P131,400 D. 122,640 Tose Alyy — C3 December 31, 2014 ~ ‘A. P120,560 B, P78,840 C, P52,560 D, P98,550 e Bitoo ¥ 1s s490q0 BARTOLO COMPANY has provided information on intangible assets as follows: * A patent was purchased from Valenzuela Company for P4,000,000 on January 1,2013. Bartolo estimates the remaining useful life of the patent fo be 10 years. The patent was carried in Valenzuela's accounting records at a net book value of P4,000,000 when Valenzuela sold it to Bartolo. 4000 + During 2014, a franchise was purchased from Delco Company for P960,000. The contract which runs for 10 years provides that 5% of revenue from the franchise must be paid to HoyR 8 A CPAR - MANILA AP 7604 ~ AUDIT OF INTANGIBLE ASSETS Delco. Revenue from the franchise for 2014 was P5,000,000. Bartolo takes a full year amortization in the year of purchase. The following research and development costs were incurred by Bartolo in 2014: Materials and equipment P284,000 - 2840 Personnel 378,000- bey Indirect costs 204,000 . ‘856,000 Bartolo estimates that these costs will be recouped by December 31, 2017. The materials and equipment purchased have no altemative uses. On January 1, 2014, because of recent events in the field, Bartolo estimates that the remaining life of the patent purchased on January 1, 2013 is only 5 years from January 1, 2014, — © Tae 4, What is the total carrying value of Bartolo’s intangible assets on December 31, 20147 250 A, P3,744,000 B. 4,864,000 CC. P2,880,000 D, 3,681,500 $60 5, Asa result of the facts above, compute the total amount of charges against income for the year ended December 31, 2014? A, 2,428,000 'B. P1,932,000 ©. P1,648,000 Q. P4,116,000 PROBLEM NO. 2 Transactions during 2014 of the newly organized ZERG CORPORATION included the following: Jan. 2. Paid legal fees of P233,000 to complete organization of the corporation. 15 Hired a clown to stand in front of the corporate office for 2 weeks and hand out pamphlets and candy to create goodwill for the new enterprise. Clown cost, P10,000; pamphiets and candy, P5,000. April 1 — Patented a newly developed process with costs as follows: Legal fees to obtain patent 429,000 ~ Patent application and licensing fees 63,500 Total P492,500 It is estimated that in 6 years other companies will have developed Improved processes, making the Zerg Corporation process obsolete, 430%) May 1 Acquired both a license to use a special type of container and a distinctive trademark to be printed on the container in exchange for 6,000 shares of Zerg’s no-par ordinary shares selling for P59 per share. The license Is worth twice as i . 7ay 20 much as the trademarks, both of whici: may be used for 6 years. 4 oy. o 0 I July 1 Constructed a shed for P1,310,000 to house prototypes of experimental models to be developed in future research projects. 2G 47 Dec. 31 Incurred salaries for an engineer and chemist involved in product development totaling P1,750,000 in 2014. 22D Based on the above and the result of your audit, determine the following: 1. Cost of patent A, 492,500 B. 429,000 C. P63,500 D. POoa CPAR - MANILA, _AP7604 ~ AUDIT OF INTANGIBLE ASSETS 2. Cost of licenses A, P150,000 B, P200,000 C. P100,000 D. PO 3. Cost of trademark A. 150,000 B. P200,000 ¢. Pt00,000 D. PO 4. Carrying amount of Intangible Assets A. P712,604 B, P2,477,604 —C._ P697,604.- D. PO 5, Total amount resulting’ from the foregoing transactions that should be expensed when incurred ‘A. P4,100,500 B. P1,983,000 . P1,998,000 D. PO PROBLEM NO. 3 ‘The TERRAN COMPANY acquired several small companies at the end of 2013 and, based on the, acquisitions, reported the following intangibles in Its December 31, 2013, statement of financial Position: Patent 200,000 2 Copyright 400,000 | Tradename 350,000 * Computer software 100,000 Ss So Goodwill 900,000 The company’s accountant determines the patent has an expected life of 10 years and no expected residual value, and that it will generate approximately equal benefits each year. The company expects to use the copyright and tradename. for the foreseeable future. The accountant knows that the computer software is used in the company’s 120 salés offices. The company has replaced the software in 60 offices in 2014, and expécts to replace the software in 40 more offices in 2015 and the remainder in 2016. On December 31, 2014, there are no indications of impairment of patent and computer ‘software. The following information relates to the other intangible assets. 2) Because of the rampant piracy, the copyright is opectel to generate cash flows of just P8,000 per year. b) The tradename is expected to generate cash fiows of P15,000 per year. ©) The goodwill is associated with Terran's SCV Manufacturing reporting unit. The cash flows ‘expected to be generated by the SCV Manufacturing reporting unit Is P200,000 per year for the next 25 years, The reporting unit has a carrying amount of P3,000,000. ZHISTK Based on the above and the result of your audit, determine the following: (Assume that the appropriate discount rate for all items is/5%, 1. Total amortization of intangible assets in 2014 A, 70,000 B. P88,750 C. P107,500 D, P20,000 2. Total loss on impairment in 2014 A. P452,470 B. 530,280 C. Pa71,220 D. 433,720 3, Carrying amount of goodwill on December 31, 2014 A. P900,000 B. P718,780 C. P855,000 D. P659,720 4. Carrying amount of other intangible assets on December 31, 2014 A. P690,000 B. 980,000 cc. P640,000 D. 706,667PAR - MANILA, AP7/604 ~ AUDIT OF INTANGIBLE ASSETS PROBLEM NO. 4 Select the best answer for each of the following: 1. The most effective means for the auditor to determine whether a recorded intangible asset possesses the characteristics of an asset is Vouch the purchase by reference to underiying documentation, Inquire as to the status of patent application. Evaluate the future revenue-producing capacity of the intangible asset. Analyze the research and development expenditures to determine that only those expenditures possessing future economic benefit have been capitalized. (gop> 2. In auditing Intangible assets, an auditor most likely would review or recompute amortization and determine whether the amortization period is reasonable in support of management's financial statement assertion of A. Valuation C. Completeness B. Existence D. Rights and obligations » Assuming TLL has capitalized all research and development costs associated with patent. York, CPA, who is examining this account will probably A. Confer with management regarding transfer of the amount from the balance sheet to the income statement. B. Confirm that the patent is registered and on file with the intellectual property office, . Confer with management regarding a change in the title of the account to “goodwill.” D. Confer with management regarding ownership of the patent. 4, There is goodwill involved in the acquisition of a business if the purchase price paid is in excess of the proprietorship of the business acquired. Goodwill might be viewed as the enjoyment of a profit by a company in excess of the normal or usual return for the industry as a whole but such goodwill is not recorded if it has not been purchased or paid for. A. False; True C. True; False B. False; False D, True; True 5, Which of the following comparisons would be the most appropriate audit test for the ‘amount of recorded goodwill? A. The purchase price and the book vaiue of assets purchased, _B. The purchase price and the fair value of assets purchased. C. The figure for goodwill specified in the contract of purchase. D. Earnings in excess of 5% of net assets for the past five years. 6. In verifying the amount of goodwill recorded by a client, the most convincing evidence an auditor can obtain is by comparing the recorded value of assets acquired with A. Assessed value as evidenced by tax bills. B. Seller’s book value as evidenced by financial statements. C. Insured value as evidenced by insurance policies. D. Appraised value as evidenced by independent appraisals. 7. A corporate balance sheet indicates that one of the corporate assets is a patent. An auditor will most likely obtain evidence regarding the continuing validity and existence of this patent by obtaining a written representation from A patent attorney. The SEC. ‘The patent inventor. The patent owner, polpp END -—