Iona Corporation is in the process of preparing its financial statements for the first quarter of 20X9 and has asked your advice as to how to report several items. These items include the following events which took place during the first quarter of 20X9 (assume all amounts are material):1) Iona redeemed bonds with a carrying value of $4,000,000 at a cost of $3,760,000. This early extinguishment occurred because Iona wants to issue new debt at lower interest rates. 2) Iona uses the LIFO method for its inventories. On January 1, 20X9, inventories amounted to $10,000,000, while, on March 31, 20X9, inventories totaled $9,200,000. Iona expects to replace the liquidated inventory at the beginning of the second quarter at a cost of $1,000,000. 3) Iona changed its depreciation method on

Question

$4,000,000 of its delivery trucks from the declining balance method to the straight-line method. On January 1, 20X9, accumulated depreciation under the declining balance method was $2,800,000. Had the straight-line method been used, accumulated depreciation on January 1, 20X9, would have been $2,300,000. The remaining life of the trucks is two years. 4) Iona pays its top executives a bonus at year-end of 6 percent of operating income before bonus and income taxes. Operating income before bonus and income taxes for the three months ended March 31, 20X9, was $10,000,000. Iona estimates that its yearly operating income before bonus and income taxes will be $60,000,000. 5) Iona closes its manufacturing operations in July of each year in order to make its major annual repairs. Iona estimates that the cost of these repairs in 20X9 will be $1,000,000. Required:For each of the events numbered 1 through 5, indicate how that event should be reported on Iona's income statement for the three months ended March 31, 20X9, and the balance sheet accounts effects at March 31, 20X9. Ignore income taxes.

What will be an ideal response?

Answer 1

1) Iona should report a gain (non-operating) from early extinguishment of debt for $240,000 on the income statement. On the balance sheet, long-term debt will be reduced by $4,000,000, retained earnings will increase by $240,000, and cash will be reduced by $3,760,000. 
2) Cost of goods sold should be increased by $1,000,000, the expected replacement cost of inventory. This assumes the cost of the liquidated inventory was not part of cost of goods sold. If the cost of the liquidated inventory has been charged to cost of goods sold, then only the difference between the expected replacement cost of $1,000,000 and the cost of the inventory liquidated of $800,000 should be the increase to cost of goods sold. On the balance sheet, inventory should be reported at $9,200,000, and a liability titled "Excess of Replacement Cost Over LIFO Cost of Inventory Liquidated" should be reported at $200,000. 
3) The remaining book value of the trucks is $1,200,000 and will be depreciated over two years, accounted for currently and prospectively as a change in estimate. The current annual depreciation expense of $600,000 is allocated quarterly and therefore $150,000 is an operating expense in the first quarter. On the balance sheet, the accumulated depreciation is $2,800,000 (prior) and $150,000 (current) = $2,950,000. 
4) The bonus is accrued for the first quarter based upon the income of the quarter, not the estimate of income for the year. Bonus expense is 6% × $10,000,000, or $600,000, for the 1st quarter. On March 31, 20X9, balance sheet, the liability for the accrued bonus would be reported as a current liability of $600,000. 
5) Since the repairs benefit the entire year, each quarter is benefited by the repairs made in July. It is correct to use the straight-line method to allocate the repairs in the absence of any other approach. Therefore, 1/4 ($1,000,000), or $250,000, should be charged to repairs expense in the first quarter. On March 31, 20X9, balance sheet, the $250,000 should be disclosed as a current liability and titled "Accrued Repairs Payable."