CHAPTER 8 Caselette Audit of Liabilities

CHAPTER 8 – Audit of Liabilities
Problem 1
In conjunction with your December 31, 2007, annual audit of the financial statements of
SweetHeart Company, you have obtained and examined the December 31, 2007, accounts payable
trial balance. Your examination of this trial balance disclosed the following open vouchers:
a. Voucher 761, containing a P380,000 credit to Accounts Payable. This voucher covered a
cash transfer to the factory payroll bank account for the pay period ended December 28, 2007.
The payroll cash transfer was made January 3, 2008, and payroll checks covering this pay
period were distributed to factory employees on January 4, 2008.
b. Voucher 778, containing an P180,000 credit to Accounts Payable. The P180,000 credit
covered the principal and interest due on a ten-year installment loan. The loan was granted to
SweetHeart Company on January 1, 2007. Terms of the loan agreement call for ten equal
annual installment payments of P100,000, each plus interest at 8 percent. Principal and
interest payments are due January 5, 2008 – 2017. The voucher indicated that the Loan
Payable and Interest Expense accounts had been properly charged.
c. Voucher 741, containing a credit to Accounts Payable of P50,000. This voucher covered on
invoice from AC Company for a new computer machine. The computer machine was installed
December 10, 2007, and the Office Equipment account was properly charged.
d. Voucher 775, containing a credit to Accounts Payable in the amount of P65,480. This
voucher covered income taxes withheld from employees during December 2007.
e. Voucher 779, containing a credit to Accounts Payable of P41,460. This credit covered the
total interest and principal due on a 180-day P40,000 note payable to the CJ Company.
Charges to the Note Payable and Interest Expense had been properly handled.
f. Voucher 751, containing a P200,000 charge to Accounts Payable. This voucher

represented a P200,000 advance payment to SS Company for a special order of ten boxes.
The P200,000 check was mailed to SS Company on January 2, 2008.
Questions
1. Accounts payable at year-end is
a. Overstated by P716,940 c. Overstated by P516,940
b. Overstated by P666,940 d. Overstated by P466,940
2. The entry to adjust Voucher # 778 is

a. Accounts payable 180,000 c. Loans payable 100,000
Loans payable 100,000 Interest expense 80,000
Interest payable 80,000 Accounts payable 180,000
b. Accounts payable 180,000 d. Loans payable 100,000
Loans payable 100,000 Interest payable 80,000
Interest expense 80,000 Accounts payable 180,000
3. The entry to adjust Voucher # 741 is

a. Accounts payable – others 50,000
Accounts payable 50,000
b. Accounts payable 50,000
Accounts payable – others 50,000
c. Accounts payable – others 50,000
Machinery 50,000
d. No adjustment
4. The current liability of the company at year-end is

a. Overstated by P340,000 c. Understated by P200,000
b. Overstated by P140,000 d. Understated by P 60,000
Solution
1. Accounts payable 380,000
Salaries payable 380,000
211
Loans payable 100,000
Interest payable 80,000
AP – others 50,000
Income tax payable 65,480
Notes payable 40,000
6. Cash 200,000
Accounts payable 200,000
Answer:
1. C 2. A 3. B 4. C
Problem 2
In conjunction with your firm’s examination of the financial statements of Ronryan Company as of
December 31, 2007, you obtained from the voucher register the information shown in the work
paper below.
Item Entry Date Description Amount Account Charged
1. 12/18/07 Supplies, purchased FOB

destination, 12/15/07;
received, 12/17/07 15,000 Supplies on hand
2. 12/18/07 Auto insurance, 12/15/07

to 12/15/08 24,000 Prepaid insurance
3. 12/21/07 Repair services; received
12/20/07 19,000 Repairs and Main.
4. 12/21//07 Merchandise shipped FOB

shipping point, 12/20/07;
received, 12/24/07 12,300 Inventory
5. 12/21/07 Payroll, 12/07/07 – 12/21/07

(12 working days) 69,000 Sal. and wages
6. 12/26/07 Subscription to Tax Journals

for 2008 5,000 Dues & subs
7. 12/28/07 Utilities for December 2007 24,000 Utilities expense
8. 12/28/07 Merchandise shipped FOB

destination, 12/24/07;

shipping point, 12/26/07;
10. 1/5/08 Payroll 12/21/07 – 1/05/08

(12 working days. 4 working
days in January) 72,000 Sal. and wages
destination, 1/03/08,
12. 1/14/08 Interest on bank loan,

10/10/07 to 01/10/08 30,000 Interest expense
13. 1/15/08 Manufacturing equipment

installed, 12/29/07 254,000 Machinery
14. 1/15/08 Dividends declared,

12/15/07 160,000 Dividends payable
Accrued liabilities of 12/31/07 were as follows:
212
Accrued payroll P 48,000
Accrued interest payable 26,667
Dividends payable 160,000
The accruals made on December 31, 2007 were reversed effective January 1, 2008.
Review the data given above and prepare adjusting journal entries to correct the accounts on
December 31, 2007. Assume that the company follows FOB terms for recording inventory
purchases.
Questions
1. The entry to adjust item #2 is

a. Insurance expense 24,000 c. Insurance expense 1,000
Prepaid insurance 24,000 Prepaid insurance 1,000
b. Insurance expense 1,000 d. No adjustment
Prepaid insurance 1,000

a. Salaries expense 48,000 c. Accrued payroll 48,000
Accrued payroll 48,000 Salaries expense 24,000
b. Accrued payroll 48,000 Cash 72,000
Salaries expense 48,000 d. No adjustment

a. Interest expense 26,667 c. Interest expense 26,667
Interest payable 26,667 Interest payable 3,333
b. Interest expense 30,000 Cash 30,000
Interest payable 30,000 d. No adjustment
4. The entry to adjust item #13

a. Machinery 254,000 c. No adjustment
b. AP – others 254,000 d. No adjustment since payment
Machinery 254,000 was made on Jan. 15, 2008
5. The entry to adjust item #14

a. Dividends declared 160,000 c. No adjustment
Dividends payable 160,000
b. Dividends payable 160,000 d. No adjustment since payment
Dividends declared 160,000 was made on Jan. 15, 2008.
Solution
1. No Adjustment
2. Insurance expense 1,000
Prepaid insurance 1,000
3. No Adjustment
4. No Adjustment
5. No Adjustment
6. Prepaid subscription 5,000
Dues and subscription 5,000
7. No adjustment
Inventory 111,000
9. No adjustment
10. No adjustment
11. No adjustment
12. No adjustment
13. Machinery 254,000
14. No adjustment
Answer:
1. B 2. D 3. D 4. A 5. C
213
Problem 3 - ADJUSTMENT FOR LOSS CONTINGENCIES
The following items have not been reflected in the financial statements of ALTAGRACIA CORP. for
the year ended December 31, 2007. You are asked if the information should be adjusted and
disclosed in the financial statements, disclosed only in the financial statement, or no adjustment or
disclosure.
1. Altagracia owns a small warehouse located on the banks of a river in which it stores inventory
worth approximately P250,000. Altagracia is not insured against flood losses. The river last
overflowed its banks 200 years ago.
a. Adjusted and disclosed in the financial statements.
b. Only disclosure is required in the financial statements.
c. No adjustment or disclosure required in the financial statements.
2. Altagracia offers an unconditional warranty on its toys. Based on past experience, Altagracia
estimates its warranty expense to be 1% of sales. Sales during 2007 were P5,000,000.
3. On October 30, 2007, a safety hazard related to one of Altagracia’s toy products was
discovered. It is considered probable that Altagracia will be liable for an amount in the range of
P50,000 to P250,000.
4. On November 29, 2007, Altagracia initiated a lawsuit seeking P125,000 in damages from a
patent infringement.
5. On December 15, 2007, a former employee filed a lawsuit seeding P50,000 for unlawful
dismissal. Altagracia’s attorneys believe the suit is without merit. No court date has been set.
6. On December 12, 2007, Conchita guaranteed a bank loan of P500,000 for its president’s
personal use.
7. On January 5, 2008, a warehouse containing a substantial portion of Altagracia’s inventory was

destroyed by fire. Altagracia expects to recover the entire loss, except for a P125,000
deductible from insurance.
8. On January 5, 2008, inventory purchased FOB shipping point from a foreign country was
detained at that coutnry’s border because of political unrest. The shipment is valued at
P750,000. Altagracia’s attorneys have stated that it is probable that Altagracia will be able to
obtain the shipment.
9. On January 30, 2008, Altagracia issued P5,000,000 bonds at a premium of P250,000.

214
10. On February 14, 2008, the BIR assessed Altagracia an additional P200,000 for the 2001 tax
year. Altagracia’s attorneys and tax accountants have stated that it is likely that the BIR will
agree to a P150,000 settlement.
Solution
1. C No adjustment nor disclosure
2. A Accrue at P50,000
4. B No adjustment – only disclosure for gain contingency
5. C No adjustment nor disclose
6. A No adjustment – disclosure is required
7. B Only disclosure – subsequent events
8. A Accrue since it is probable
9. B Only disclosure – subsequent events
Problem 4 - BONUS COMPUTATION

Maria Rosa, president of the Villa Nova Company, has a bonus arrangement with the company
under which she receives 10% of the net income (after deducting taxes and bonuses) each year.
For the current year, the net income before deducting either the provision for income taxes or the
bonus is P4,650,000. The bonus is deductible for tax purposes, and the tax rate is 32%.
Questions
1. The amount of Maria Rosa’s bonus is
a. P 465,000.00 b. P 364,285.71 c. P 339,270.39 d. P 296,069.42
2. The appropriate provision for income tax for the year is

a. P 1,488,000.00 b. P 1,393,258.43 c. P 1,371,428.57 d. P 1,379,433.48
3. The entry to record the bonus (which will be paid in the following year) is
a. Bonus expense 296,069.42
Bonus payable 296,069.42
b. Bonus expense 339,270.39
c. Bonus expense 465,000.00
d. No entry
Solution
1. Answer: D
B = 10% (P4,650,000 – B – T)
T = 32% (P4,650,000 – B)
B = 10% (P4,650,000 – B – (32% x P4,650,000 – B)
= 10% (P4,650,000 – B – (P1,488,000 - .32B)
= 10% (P4,650,000 – B – P1,488,000 + .32B
= P465,000 - .10B – P148,800 + .032B
= P316,200 - .068B
1.068B = P316,200
= P296,097.42
2. Answer: B
T = 32% (P4,650,000 – P296,067.42)
= P1,393,258.43
3. Answer: A
Bonus expense 296,097.42
Problem 5 - PREMIUMS
In the packages of its products, ALONDRA, INC. includes coupons that may be presented at retail
stores to obtain discounts on other Alondra products. Retailers are reimbursed for the face amount
of coupons redeemed plus 10% of that amount for handling costs. Alondra honors requests for
coupon redemption by retailers up to 3 months after the consumer expiration date. Alondra
estimates that 60% of all coupons issued will ultimately be redeemed. Information relating to
coupons issued by Alondra during 2007 is as follows:
Consumer expiration date 12/31/07

Total payments to retailers as of 12/31/07 165,000
215
Liability for unredeemed coupons as of 12/31/07 99,000
Questions
1. The total face amount of coupons issued in 2007 is
a. P 600,000 b. P 440,000 c. P 400,000 d. P 240,000
2. Coupons expense at year-end is

a. P 440,000 b. P 400,000 c. P 264,000 d. P 240,000
4. Estimated liability for unredeemed coupons is

a. P 219,000 b. P 123,000 c. P 99,000 d. P 3,000
Solution
Coupons issued 400,000 – squeezed figure
X 60%
Coupons to be redeemed 240,000 Answer:
Plus: Handling cost (10%) 24,000 1. C 2. C 3. C
Total Cost 264,000
Less: payment 165,000
Estimated liability 99,000
Problem 6 - DEBT RESTRUCTURING: ASSET SWAP, EQUITY SWAP AND MODIFICATION OF

TERMS
MARIANA CORPORATION is having financial difficulty and therefore has asked NALOOY Bank to
restructure its P3 million note outstanding. The presented note has 3 years remaining and pays a
current rate of interest of 10%. The present market rate for a loan of this nature is 12%. The note
was issued at its face value.
Presented below are four independent situations. Determine the journal entry that Mariana would
make for each of the following types of debt restructuring.
1. NALOOY Bank agrees to take an equity interest in Mariana by accepting common

stock valued at 2,400 in exchange for relinquishing its claim on this note. The common stock
has a par value of P1,200,000.
a. Notes payable 3,000,000
Common stock 3,000,000
b. Notes payable 3,000,000
APIC 1,800,000
c. Notes payable 3,000,000
Interest expense 300,000
APIC 1,500,000
d. No adjustment
2. NALOOY Bank agrees to accept land in exchange for relinquishing its claim on this
note. The land has a book value of P2,000,000 and a fair value of P2,500,000.
a. Notes payable 3,000,000
Land 2,500,000
Gain on debt restructuring 500,000
b. Notes payable 3,000,000
Land 2,000,000
Gain on exchange 200,000
c. Notes payable 3,000,000
Land 2,000,000
d. No adjustment
3. NALOOY Bank agrees to modify the terms of the note, indicating that Dolores does
not have to pay any interest on the note over the 3-year period.
a. Interest payable 300,000
b. Loss on debt restructuring 300,000
216
c. Interest expense 900,000
d. No adjustment
4. NALOOY Bank agrees to reduce the principal balance due to P2,000,000 and require interest
only in the second and third year at a rate of 10%.
a. Notes payable – old 3,000,000
Notes payable – new 2,400,000
b. Notes payable - old 3,000,000
c. Notes payable – old 3,000,000
d. No adjustment
Solution
1. B
Notes payable 3,000,000
APIC 1,800,000
2. C
Land 2,000,000
3. D No Adjustment
4. A
Notes payable – old 3,000,000
Problem 7 - CURRENT LIABILITY
The December 31 trial balance of the Ruel Corporation includes, among others, the following:
Long-term Notes – which are payable in annual installment

of P10,000 on February 1 of each year P 60,000
Rental income received in advance 16,000
Notes payable, which are trade notes, with the exception of P20,000
Notes payable to bank on June 30 of the following year 60,000
Accounts payable which include account with debit balance of P2,000 80,000
Notes Receivable which have been reduced by notes discounted of
P20,000 that are not yet due and on which the Corporation is
contingently liable 100,000
Accounts Receivable, which include accounts with credit balances
of P10,000 and past due accounts of P6,000 on which a loss
of 80% is anticipated 200,000
Merchandise Inventory, which includes goods held for consignment,
P8,000, and goods received on December 31 of P12,000; neither
of these items having been recorded as a purchase 180,000
Questions
1. What is the amount of the current liabilities on December 31?
a. P 190,000 b. P 184,000 c. P 178,000 d. P 170,000
2. The long-term debt at year-end is

a. P 70,000 b. P 50,000 c. P 30,000 d. P 0
Solution
Long-term Notes – which are payable in annual installment
of P10,000 on February 1 of each year P 10,000
Rental income received in advance 16,000
Notes payable, which are trade notes, with the exception of P20,000
Notes payable to bank on June 30 of the following year 60,000
Accounts payable which include account with debit balance of P2,000 82,000
Accounts Receivable, which include accounts with credit balances
217
of P10,000 and past due accounts of P6,000 on which a loss
of 80% is anticipated 10,000
Merchandise Inventory, which includes goods held for consignment,
P8,000, and goods received on December 31 of P12,000; neither
of these items having been recorded as a purchase 12,000
TOTAL CURRENT LIABILITIES P 190,000
Answer:
1. A 2. Long-term liability – P50,000
Problem 8
Abam Corporation is selling audio and video appliances. The company’s fiscal year ends on March
31. The following information relates the obligations of the company as of March 31, 2007.
Notes payable
Abam has signed several long- term notes with financial institutions. The maturities of these notes
are given below. The total unpaid interest for all of these notes amount to P340,000 on March 31,
2007.
Due date Amount

April 31, 2007 P 600,000
July 31, 2007 900,000
September 1, 2007 450,000
February 1, 2008 450,000
April 1, 2008- March 31, 2011 2,700,000
P5,100,000
Estimated warranties:
Abam has one year product warranty on some selected items. The estimated warranty liability on
sales made during the 2005-2006 fiscal year and still outstanding as of March 31, 2006, amounted
to P252,000. The warranty costs on sales made from April 1, 2006 to March 31, 2007 are
estimated at P630,000. The actual warranty costs incurred during 2006- 2007 fiscal year as
follows:
Warranty claims honored on 2005- 2006 P252,000

Warranty claims honored on 2006- 2007 sales 285,000
Total P537,000
Trade payables
Accounts payable for supplies, goods and services purchases on open account amount to P560,000
as of March 31, 2007.
Dividends
On march 10, 2007, Abam’s board of directors declared a cash dividend of P0.30 per common
share and a 10% common stock dividend. Both dividends were to be distributed on Aptil 5, 2007 to
common stockholders on record at the close of business on March 31, 2007. As of March 31, 2007,
Abams has 5 million, P2 par value common stock shares issued and outstanding.
Bonds payable
Abams issued P5,000,000, 12% bonds, on October 1, 2001 at 96. The bonds will mature on
October 1, 2011. Interest is paid semiannually on October 1 and April 1. Abams uses straight line
method to amortize bond discount.
Based on the forgoing information, determine the adjusted balances of the following as of March
31, 2007:
Questions
1. Estimated warranty payable
a. P252,000 b. P345,000 c. P630,000 d. P882,000
2. Unamortized bond discount

a. P110,000 b. P200,000 c. P100,000 d. P90,000
3. Bond interest payable

a. P0 b. P300,000 c. P150,000 d. P250,000
4. Total current liabilities

a. P6,445,000 b. P5,105,000 c. P5,445,000 d. P3,945,000
218
5. Total noncurrent liabilities
a. P7,700,000 b. P7,590,000 c. P7,500,000 d. P7,610,000
Solution
1. B
Total Warranty Expense 882,000
Less: Paid warranty 537,000
Est. liability 345,000
2. D
Discount on BP (P5M x 4%) 200,000
Amortization (200,000/120 x 66) 110,000
(Oct. 1, 1998 – March 31, 2004) ______
Unamortized discount on BP 90,000
3. D P5M x 12% x 6/12 = P300,000
4. C
Interest payable 640,000 (340,000 + 300,000)
Est. liability 345,000
Trade payable 560,000
Dividends payable 1,500,000
Total Current Liability 5,445,000
5. D
Bonds payable 4,910,000
Total 7,610,000
BONDS PAYABLE
Problem 9
On January 1, 2007, LACEA COMPANY issued 7% term bonds with a face amount of P1,000,000
due January 1, 2015. Interest is payable semiannually on January 1 and July 1. On the date of
issue, investors were willing to accept an effective interest of 6%.
Questions
1. The bonds were issued on January 1, 2007 at

a. A premium c. Book value
b. An amortized value d. A discount
2. Assume the bonds were issued on January 1, 2007, for P1,062,809. Using the effective
interest amortization method, LACEA COMPANY recorded interest expense for the 6 months
ended June 30, 2007, in the amount of
a. P 70,000 b. P 63,769 c. P 35,000 d. P 31,884
3. Same information in number 2. LACEA COMPANY recorded interest expense for the 6 months
ended December 31, 2007, in the amount of
a. P 70,000 b. P 63,769 c. P 31,884 d. P 31,791
4. The carrying value of the bonds on July 1, 2008 is:

a. P 1,056,578 b. P 1,056,484 c. P 1,053,276 d. P 1,053,179
5. A bond issue sold at a premium is valued on the statement of financial position at the
a. Maturity value.
b. Maturity value plus the unamortized portion of the premium.
c. Cost at the date of investment.
d. Maturity value less the unamortized portion of the premium.
Solution
1. B
If nominal rate is less than the yield rate, there is discount
If nominal rate is more than the yield rate, there is premium
2. D
Date Interest expense Interest paid Amortization Carrying Value
1,062,809
July 2007 31,884 35,000 3,116 1,059,693
December 2007 31,791 35,000 3,209 1,056,484
July 2008 31,695 35,000 3,305 1,053,179
Interest expense = Carrying value of the note X yield rate x 6/12
Interest paid = Face value of the note X nominal rate x 6/12
219
Amortization = Interest expense – Interest paid
Carrying value – end = Carrying value – beg. – Amortization
3. D 4. D 5. B
Problem 10
The following data were obtained from the initial audit of Popoy Company:
Debit Credit Balance

15%, 10-year Bonds Payable, dated
January 1, 2006.
Cash proceeds from issue on January 1,
2007 of 500, P1,000 bonds 522,500 522,500
Bonds Interest Expense

Cash paid – Jan. 2, 2008 37,500 37,500
Cash paid – July 1, 2008 37,500 75,000
Accrual – December 31, 2008 37,500 112,500
Accrued Interest on Bonds

Balance – Jan. 1, 2008 37,500 37,500
Accrual – Dec. 31 2008 37,500 75,000
Treasury Bonds
Redemption price and interest to date
on 100 bonds permanently retired –
October 1, 2008 109,000 109,000
Questions
1. What should be the correct original entry to account for the issuance of bonds at January 1,
2007?
DEBIT CREDIT
a. Cash 522,500 Bonds Payable 500,000
Discount on BP 22,500
b. Cash 500,000 Bonds Payable 500,000
c. Cash 522,500 Bonds Payable 500,000
Premium on BP 22,500
d. Cash 522,500 Bonds payable 522,500
2. The adjusting entry to accrue interest on bonds payable at December 31, 2007?
DEBIT CREDIT
a. Cash 37,500 Interest income 37,500
b. Interest expense 37,500 Interest payable 37,500
c. Interest receivable 37,500 Interest income 37,500
d. Interest expense 37,500 Interest income 37,500
3. The reversing entry related to accrual on bond interest expense at January 1, 2008?
DEBIT CREDIT
a. Interest income 37,500 Cash 37,500
b. Interest payable 37,500 Interest expense 37,500
c. Interest payable 37,500 Retained earnings 37,500
d. Retained earnings 37,500 Interest expense 37,500
4. The journal entry to record payment of interest due on July 1, 2008?

DEBIT CREDIT
a. Cash 37,500 Interest payable 37,500
b. Interest payable 37,500 Cash 37,500
c. Interest receivable 37,500 Cash 37,500
d. Interest expense 37,500 Cash 37,500
5. The reversing entry related to accrual on bond interest expense at January 1, 2009?
DEBIT CREDIT
a. Interest income 37,500 Cash 37,500
b. Interest payable 30,000 Interest expense 30,000
c. Interest payable 15,000 Interest expense 15,000
220
d. Interest income 37,500 Interest expense 37,500
6. The adjusting entry that should have been made to amortize on bond premium at December
31, 2007?
DEBIT CREDIT
a. Premium on BP 2,500 Interest expense 2,500
b. Premium on BP 2,500 Retained earnings 2,500
c. Premium on BP 2,250 Interest expense 2,250
d. Premium on BP 2,250 Retained earnings 2,250
7. The correcting entry to adjust for the error related to amortization on bond premium in 2008
is?
DEBIT CREDIT
a. Premium on BP 2,500 Retained earnings 2,500
b. Premium on BP 2,500 Interest expense 2,500
c. Premium on BP 4,875 Interest expense 2,375
Retained earnings 2,500
d. Premium on BP 4,875 Retained earnings 4,875
8. The correct entry to record retirement of 100 bonds on October 1, 2008?

a. Interest expense 3,750 Cash 109,000
Bonds payable 100,000
Premium on BP 3,625
Loss on retirement 1,625
b. Interest expense 3,750 Cash 109,000
Premium on BP 3,625
c. Interest expense 3,750 Cash 109,000
Premium on BP 3,713
d. Interest expense 3,750 Cash 109,000
Premium on BP 3,713
Solution
1. C Cash 522,500
Bond premium 22,500
2. B Interest expense 37,500
3. B Interest payable 37,500
4. D Interest expense 37,500
Cash 37,500
5. B Interest payable 30,000
6. A Bond premium 2,500
Interest expense 2,500 (P22,500/108 x 12 = P2,500)
7. C Bond premium 4,875
Retained earnings 2,500 (P22,500/108 x 12 = P 2,500)
Interest expense 2,375 (P22,500/108 x 9 = P 1,875
4/5 x P22,500/108 x 3 = 500)
8. A OE: Treasury Bonds 109,000
Cash 109,000
CE: Bonds payable 100,000
Bond premium 3,625
Cash 109,000
Adj: Bonds payable 100,000
Bond premium 3,625
Treasury Bodns 109,000
Problem 10
221
When the LUAYON MANUFACTURING COMPANY was expanding its metal window division, it did not
have enough capital to finance the expansion. So, management sought and received approval
from the board of directors to issue bonds. The company planned to issue P5,000,000 of 8
percent, five-year bonds in 2007. Interest would be paid on June 30 and December 31 of each
year. The bonds would be callable at 104, and each P1,000 bond would be convertible into 30
shares of P10 par value common stock.
On January 1, 2007, the bonds were sold at 96 because the market rate of interest for similar
investment was 9 percent. The company decided to amortize the bond discount by using the
effective interest method.
On July 1, 2009, management called and retired half the bonds, and investors converted the other
half into common stock. As inducement, the company agrees to pay additional P100,000 to the
holders of the convertible bonds.
Questions
1. Carrying value of the bonds at December 31, 2007 is:
a. P 4,840,000 b. P 4,832,720 c. P 4,832,000 d. P 4,816,000
2. Carrying value of the bonds at December 31, 2008 is:

a. P 4,880,000 b. P 4,868,451 c. P 4,866,880 d. P 4,850,000
3. Interest expense at December 31, 2008 is:

a. P 432,000 b. P 432,720 c. P 435,731 d. P 437,339
4. Carrying value of the bonds converted is:

a. P 2,500,000 b. P 2,456,235 c. P 2,450,000 d. P 2,443,765
5. Additional paid-in capital in the conversion of bonds is:

a. P 1,706,234 b. P 1,793,766 c. P 1,693,766 d. P 1,684,225
6. Carrying value of retired bonds is:

a. P 2,500,000 b. P 2,456,235 c. P 2,450,000 d. P 2,443,765
7. Loss on early retirement of bonds is:

a. P 156,235 b. P 150,000 c. P 143,765 d. P 100,000
8. Interest expense on the bonds at December 31, 2009 is:

a. P 438,161 b. P 400,000 c. P 219,080 d. P
200,000
9. The company should record gain or loss on conversion of:

a. Loss of P100,000 c. Loss of P50,000
b. Gain of P100,000 d. No gain or loss on conversion
Solution
July 1, 2009 Bonds payable 2,500,000
Loss on bond retirement 156,235
Cash 2,600,000
Debt conversion expense 100,000
Common stock 750,000
APIC 1,693,765
Cash 100,000
4,800,000
June 2007 215,000 200,000 16,000 4,816,000
December 2007 216,720 200,000 16,720 4,832,720
June 2008 217,472 200,000 17,472 4,850,192
December 2008 218,259 200,000 18,259 4,868,451
June 2009 219,080 200,000 19,080 4,887,531
Answer: 1. b 2. b 3. c 4. d 5. c
6. d 7. a 8. c 9. d
Problem 11
222
In connection with your firm’s annual examination of the December 31, 2007 financial statements
of the NUNEZA CORPORATION, your have been assigned the duty of auditing long-term liabilities
for the year ended December 31, 2007. In the course of performing your work, you obtain the
following evidence and information related to a new bond issue sold during 2007:
1. NUNEZA floated a new issue of P800,000 par value, 15-year, 10 percent bonds during the latter
half of the second quarter of the year.
2. The new bond issue was dated July 1, 2007 and it was sold on that date for P689,872. This
price provided an effective interest rate on the bond issue of 12 percent.
3. Interest on a new bond issue was payable semiannually on January 1 and July 1.
4. NUNEZA paid P12,000 cash for printing, legal, and other fees in connection with the issuance of
the bonds.
5. The NUNEZA CORPORATION accounts related to this new bond reflect these bond transactions
as follows:
Bond Payable, 2007 Issue
CR 7/1/07 P 800,000
Unamortized Bond Discount, 2007 Bond Issue

CD 7/1/07 P110,128
CD 7/1/07 12,000 JV 12/31/07 P 4,070.93
Bond Interest Expense, 2007 Bond Issue

JV 12/31/07 P 4,070.93
VR 12/30/07 40,000.00
Legend: CD – Cash Disbursement

CR – Cash Receipts
JV – Journal Vouchers
VR – Voucher Register
Questions
1. Amortization of bond issue cost is:
a. P 800.00 b. P 400.00 c. P 240.00 d. P 120.00
2. Amortization of bond discount is:

a. P 1,392 b. P 2,679 c. P 3,671 d. P 4,071
3. Carrying value of the bonds at year-end is:

a. P 693,943 b. P 693,543 c. P 692,551 d. P 691,264
4 The accrued interest expense at year-end is:

a. P 40,000 b. P 41,392 c. P 80,000 d. P 82,785
5. The recorded amortization of bond discount is overstated by:

a. P 400 b. P 1,392 c. P 2,679 d. P 0
6. The carrying value of the bond issue cost at year-end is:

a. P 11,880 b. P 11,760 c. P 11,600 d. P 11,200
Solution
1. B P12,000/15 x 6/12 = P400
2. A 3. D 4. A
689,872
December 2007 41,392 40,000 1,392 691,264
July 2008 41,476 40,000 1,476 692,740
December 2008 41,564 40,000 1,564 694,304
5. C Per record - P 4,071
Per audit - 1,392
Adj. - P 2,679
6. C (P12,000 – P400)
223
Problem 12
On July 1, 2007 Salem Corporation issued P2,000,000 of 7% bonds payable in 10 years. The bonds
pay interest semiannually. Each P1,000 bond includes a detachable stock purchase right. Each right
gives the bondholder the option to purchase for P30, one share of P1 par value common stock at
any time during the next 10 years. The bonds were sold for P2,000,000. The value of the stock
purchase rights at the time of issuance was P100,000.
Questions
1. How many warrants were issued?
a. 2,000,000 b. P 66,667 c. 20,000 d. 2,000
2. If the bondholder will exercise all his rights, the additional paid-in capital will be
a. P 158,000 b. P 150,000 c. P 58,000 d. P 0
Solution
Cash 2,000,000
Discount on bonds payable 100,000
Common stock warrants outstanding 100,000
Proceeds 2,000,000
Less: Cost of Warrants 100,000
Cost of the bonds 1,900,000
If warrant will exercise:

Cash 60,000
CSWO 100,000
Common stock 2,000
APIC 158,000
Answer: 1. D 2. A
Problem 13
Friendly Corporation issued P500,000, 6%, nonconvertible bonds with detachable stock purchase
warrants. Each P1,000 bond carried 20 detachable stock purchase warrants, each of which called
for one share of friendly common stock, par P50, at the specified option price of P60 per share. The
bonds sold at 106, and the detachable stock purchase warrants were immediately quoted at P1
each on the market.
Questions
1. The entry to record the issuance of the bonds is
a. Cash 500,000
b. Cash 530,000
Premium on bonds payable 20,000
CS warrants outstanding 10,000
c. Cash 530,000
d. Cash 530,000
2. The entry to record the subsequent exercise of the 10,000 stock purchase warrants is
a. Cash 600,000
Premium on BP 20,000
Additional paid-in capital 120,000
b. Cash 500,000
c. Cash 600,000
d. Cash 600,000
CS warrants outstn. 10,000
224
3. Assuming the Goode Company did not exercise the 10,000 stock purchase warrants in
questions above, what is the entry for Goode Company (the investor) in the acquisition of the
bonds (including the stock purchase warrants).
a. Investment in bonds 500,000
Cash 500,000
b. Investment in bonds 500,000
Invest. in warrants 30,000
Cash 530,000
c. Investment in bonds 530,000
Cash 530,000
d. Investment in bonds 470,000
Cash 470,000
4. The entry in the subsequent sale to another investor of half of the stock purchase warrants at
P1.50 each is
a. No adjustment
b. Cash 7,500
Gain on sale 7,500
c. Cash 750
Investment in bonds 500
Gain on sale 250
d. Cash 7,500
Investment in bonds 5,000
(P1 x 10,000 x 1/2)
Gain on sale 2,500
5. The entry in the Subsequent exercise of the remaining half of the stock purchase warrants (by
tendering them to Friendly Corporation). The market value of the stock was P62 per share is
a. Investment in stock 305,000
Cash 300,000
(10,000 warrants x ½ x P60)
b. Investment in bonds 305,000
Cash 305,000
c. Investment in stock 300,000
Cash 300,000
d. Investment in bonds 5,000

Investment in stock 300,000
Cash 305,000
Solution
1. B Cash 530,000
Common stock warrants outstanding 10,000
2. D Cash 600,000
APIC 110,000
3. C Investment in bonds 530,000
Cash 530,000
4. D Cash 7,500
(P1 x 10,000 x ½)
Gain on sale 2,500
5. A Investment in stock 305,000
Cash 300,000
(10,000 warrants x ½ x P60)
Problem 14
In your initial audit of EMILIA CORP., you find the following ledger account balances.
12% Bonds Payable – maturity date, 1/1/2015

1/2/05 CR P5,000,000
225
Treasury Bonds
10/1/07 CD P1,100,000
Bond Discount
1/2/05 CD P 500,000
Bond Interest Expense

1/1/07 CD P 300,000
7/1/07 CD 300,000
The bonds were redeemed for permanent cancellation on October 1, 2007, at 107 plus accrued
interest.
Questions
1. Adjusted balance of bonds payable on December 31, 2007.
a. P 5,000,000 b. P 4,000,000 c. P 3,900,000 d. P 3,000,000
2. Adjusted balance of bond discount on December 31, 2007.

a. P 360,000 b. P 352,500 c. P 327,500 d. P 280,000
3. Bond interest expense for 2007.

a. P 917,500 b. P 870,000 c. P 680,000 d. P 617,500
4. Gain or loss on bond redemption.

a. P 170,000 b. P 142,500 c. P 127,500 d. P 97,500
Solution
Bond discount 100,000
--------------------------------------------------------------
OE: Treasury bonds 1,100,000
Cash 1,100,000
CE: Bonds payable 1,000,000 * 1/5 x P500,000 = P100,000
Interest expense 30,000 100,000/120 x 33 (27,500)
Loss on early extinguishment Unamortized disc.
of debt 142,500 for the P100,000
Bonds discount 72,500 * bond P 72,500
Cash 1,100,000
Adj: Loss on early extinguishment
of debt 142,500
Bonds discount 72,500
Treasury bonds 1,100,000
----------------------------------------------------------------
----------------------------------------------------------------
Bonds discount 47,500
P100,000 bond / 10 years x 9/12 = P 7,500
P400,000 bond / 10 years = 40,000
P47,500
Answer:
1. B 2. D 3. D 4. B
Problem 15
At December 31, 2006, the Core Corporation had the following liability and equity account
balances:
11% Bonds payable, at face value P2,500,000

226
Additional paid in capital 1,147,500
Retained earnings 1,232,500
Treasury stock, at cost 162,500
Transactions during 2007 and other information relating to the Corporation’s liability and equity
accounts were as follows:
 The bonds were issued on December 31, 2005, for P2,689,000 to yield 10%. The bonds mature
on December 31, 2012. Interest is payable annually on December 31. The Corporation uses the
effective interest method to amortize bond premium.
 At December 31, 2006, the corporation had 1,000,000 authorized shares of P10 par common
stock.
 On November 2, 2007, the Corporation borrowed P2,000,000 at 9%, evidenced by a note

payable to Premium Bank. The note is payable in five equal annual principal installments of
P400,000. The first principal and interest payment is due on November 2, 2008.
Questions
1. How much is the bond premium amortization for 2007?
a. P 7,381 b. P 6,710 c. P 6,500 d. P 6,100
2. What is the carrying value of the bonds payable on December 31, 2007?
a. P 2,689,000 b. P 2,682,900 c. P 2,676,190 d. P 2,668,809
3. How much is the 2007 interest expense on bonds payable?

a. P 275,000 b. P 268,900 c. P 268,290 d. P 267,619
4. What is the treasury stock balance on December 31, 2007?

a. P 165,200 b. P 163,500 c. P 162,500 d. P 162,000
5. What is the long-term portion of the note payable to bank as of December 31, 2007?
a. P 2,000,000 b. P 1,600,000 c. P 1,400,000 d. P 1,000,000
6. What is the 2007 total interest expense?

a. P 305,000 b. P 298,900 c. P 298,290 d. P 297,619
Solution
Interest Interest Carrying
Paid Expense Amort. Value
Dec. 31, 2005 2,689,000
2006 275,000 268,900 6,100 2,682,900
2007 275,000 268,290 6,710 2,676,190
2008 275,000 267,619 7,381 2,668,809
Answer:
1. B 2. C 3. C 4. C 5. B
6. Notes Payable P2,000,000 x 9% x 2/12 = P 30,000
Total 298,290
Problem 16
The STEPHANY CO. sold P6,000,000 of 9% bonds on October 1, 1999, at P5,747,280 plus accrued
interest. The bonds were dated July 1, 1999; interest payable semiannually on January 1 and July
1; redeemable after June 30, 2004 to June 30, 2007, at 101, and thereafter until maturity at 100;
and convertible into P10 par value common stock as follows:
 Until June 30, 2004, at the rate of 6 shares for each P1,000 bond.
 From July 1, 2004, to June 30, 2007, at the rate of 5 shares for each P1,000 bond.
 After June 30, 2007, at the rate of 4 shares for each P1,000 bond.
The bonds mature 10 years form their issue date. The company adjust its books monthly and
closes its books as of December 31 each year.
The following transactions occur in connection with the bonds:
227
2005
July 1 P2,000,000 of bonds were converted into stock.
2006
Dec 31 P1,000,000 face value of bonds were reacquired at 99-1/4 plus accrued
interest. These were immediately retired.
2007
July 1 The remaining bonds were called for redemption and accrued interest
was paid. For purposes of obtaining funds for redemption and business
expansion, an P8,000,000 issue of 7% bonds was sold at 97. These bonds are dated July
1, 2007, and are due in 20 years.
Questions
1. What is the carrying value of bonds payable at December 31, 1999?
a. P 5,747,280 b. P 6,000,000 c. P 5,753,760 d. P 5,749,440
2. What is the total interest expense for 1999?

a. P 128,520 b. P 47,160 c. P 141,480 d. P 135,000
3. In recording the bond conversion on July 1, 2005, how much should be credited to the additional
paid-in capital account?
a. P 1,796,320 b. P 1,965,440 c. P 1,845,440 d. P 1,865,440
4. What is the gain or loss on bond conversion on July 1, 2005?

a. P 0 b. P 1,796,320 c. P 1,865,440 d. P 34,560
5. What is the carrying value of the bonds reacquired on December 31, 2006?
a. P 989,200 b. P 957,880 c. P 1,010,800 d. P 981,700
6. What is the gain (loss) on bond reacquisition on December 31, 2006?

a. P 3,300 b. (P 3,300) c. P 34,620 d. (P 34,620)
7. What is the carrying value of the bonds retired on July 1, 2007?

a. P 3,000,000 b. P 2,974,080 c. P 2,873,640 d. P 3,025,920
8. What is the gain (loss) on bond retirement on July 1, 2007?

a. (P 25,920) b. P 25,920 c. (P 12,960) d. P 0
Solution
October 1, 1999 Cash 5,882,280
Discount on Bond payable 252,720
Dec. 31, 1999 Interest expense 6,480
Discount on Bond Payable 6,480
P 252,720/117 x 3 = P6,480
July 1, 2005 Bond payable 2,000,000
Additional paid-in capital 1,865,440
Dec. 31, 2005 Bonds payable 1,000,000
Cash 1,037,500
Cash 3,135,000
Answer:
1. C 2. C 3. D 4. A 5. A
6. B 7. B 8. A
228
Problem 17
From the following accounts and supplementary information, prepare working papers and any
adjusting entries covering your audit of bonds payable in connection with your first examination of
the Corporation, as of December 31, 2007.
6% 25-year Debenture Bonds, Due January 1, 2027
DR CR Balance
January 1, 2002 CR P500,000.00 P500,000.00
Bond Premium
DR CR Balance
January 1, 2002 CR P 25,000.00 P 25,000.00
Treasury Bonds
DR CR Balance
October 1, 2007 CD P104,500.00 P104,500.00
DR CR Balance
January 1, 2007 CDP 15,000.00 P 15,000.00
July 1, 2007 CD 15,000.00 30,000.00
The treasury bonds were purchased at a price of 103 plus accrued interest through a broker. The
bonds are not to be reissued and the client asked you to prepare an adjusting entry writing off the
bonds.
Questions
1. The December 31, 2007 Bonds Payable is
a. P 500,000 b. P 450,000 c. P 400,000 d. P 395,500
2. The December 31, 2007 Bond Premium is

a. P 20,050 b. P 16,000 c. P 15,000 d. P 14,750
3. The December 31, 2007 Accrued Interest Payable is

a. P 30,000 b. P 26,050 c. P 15,000 d. P 12,000
4. The December 31, 2007 Bond Interest Expense is

a. P 27,550 b. P 26,050 c. P 25,000 d. P 24,050
Solution
Bond premium 4,000
Bonds premium 4,050
Treasury bonds 104,500
Gain on bond redemption/retirement 1,050
Bonds premium 950
Interest expense 950
P25,000 x 4/5 = P 20,000/25 = P 800
P 5,000 x 9/12 = 150
P 950
Answer:
1. C 2. B 3. D 4. A
Problem 18
In the course of your initial examination of the accounts of Paul Company, you obtain the following
information related to the company’s bonds payable as of December 31, 2007:
12% 25-year Bonds Payable, 2006 issue

01/01/2006 Balance- P 4,000,000 Cr
229
Treasury Bonds
10/01/2007 Balance- P 540,000 Dr
Bond Premium
01/01/2006 Balance- P 200,000 Cr

01/01/2007 Balance- P 240,000 Dr
07/01/2007 Balance- P 240,000 Dr
The treasury bonds were acquired at a price of 105 plus accrued interest. The treasury bonds will
be available for reissuance.
Questions
Based on the information presented above and the result of your audit, answer the following:
1. The adjusted balance of the bonds payable account as of December 31, 2007 is:
a. P 4,000,000 b. P 3,500,000 c. P 3,460,000 d. P 3,360,000
2. The adjusted balance of the treasury bonds account as of December 31, 2007 is:
a. P 540,000 b. P 525,000 c. P 500,000 d. P 0
3. The unadjusted balance of the bond premium account as of December 31, 2007 should be
a. P 200,000 b. P 160,000 c. P 140,000 d. P 0
4. The total bond interest expense that should be reported by the company for the year 2007 is
a. P 480,000 b. P 472,750 c. P 465,000 d. P 457,250
5. The loss on the acquisition of treasury bonds is

a. P 19,750 b. P 15,000 c. P 4,750 d. P 0
6. The carrying value of the bonds payable as of December 31, 2007 should be
a. P 4,000,000 b. P 3,860,000 c. P 3,640,000 d. P 3,360,000
Solution
OE: Treasury bonds 540,000
Cash 540,000
CE: Bonds payable 500,000
Bonds premium 20,250
Cash 540,000
Proceeds = Principal x 105 + {x (12%) (3/12)}
540,000 = x (105) + .03x
540,000 = 1.03x
500,000 =x
500,000/4,000,000 x 200,000 = 25,000 Discount
( 4,750) 25,000/300 x 57
20,250 Unamortized Bonds Premium
Bonds premium 20,250
Treasury Bonds 540,000
To record the amortization:

Bond premium 39,750
Interest expense 7,750 *
Retained earnings 32,000 (200,000/300 x 48)
3,500,000/4,000,000 x 200,000 = 175,000/300 x 12 = 7,000

500/4,000,000 x 200,000 = 25,000/300 x 9 = 750
7,750
To record accrual of interest
Answer:
1. B 2. D 3. C 4. D 5. C 6. D
Problem 19
230
In the course of your initial examination of the accounts of Maricel Company, you obtain the
following information related of the company’s bonds payable as of December 31, 2004.
12% Bonds Payable – Due January 1, 2007

01/01/2004 P3,000,000 face 01/01/1997 P 6,000,000
value bonds purchased at
90 and retired P 2,700,000
Discount on Bonds Payable

01/01/1997 P 300,000
Questions
Based on the above and the result of your audit, answer the following:
1. How much is the Discount on bonds payable as of December 31, 2004?

a. P 90,000 b. P 45,000 c. P 30,000 d. P 15,000
2. How much is the carrying amount of bonds payable as of December 31, 2004?
a. P 3,000,000 b. P 3,030,000 c. P 2,970,000 d. P 2,955,000
3. How much is the total interest expense for the year ended December 31, 2004?
a. P 390,000 b. P 375,000 c. P 360,000 d. P 345,000
4. How much is the gain on early retirement of bonds?

a. P 345,000 b. P 270,000 c. P 255,000 d. P 0
Solution
Entry – retirement of bonds
OE: Bonds payable 2,700,000
Cash 2,700,000
CE: Bonds payable 3,000,000
Gain on retirement 255,000
Cash 2,700,000
(3M/6M x 300,000 = 150,000/10 x 3 = P45,000 unamortized)
Gain on retirement 255,000
Retained earnings 210,000 (300,000/10 x 7 = 210,000)

Interest expense 15,000 (3M/6M x 300,000/10)

3,000,000 x 12% = 360,000
Answer:
1. C 2. C 3. B 4. C
Problem 20
On January 1, 2007, CPA NAKO company issued eight-year bonds with a face value of P2,000,000
and a stated interest rate of 6% payable semiannually on June 30 and December 31. The bonds
were sold to yield 8%. Table values are:
Present value of 1 for 8 periods at 6% 00.627

Present value of annuity of 1 for 8 periods at 6% 6.210
Questions
1. The present value of the principal is
a. P 1,068,000 b. P 1,080,000 c. P 1,246,000 d. P 1,254,000
2. The present value of the interest is

a. P 689,640 b. P 699,120 c. P 745,200 d. P 753,660
231
3. The issue price of the bonds is
a. P 1,767,120 b. P 1,769,640 c. P 1,779,120 d. P 1,999,200
Solution
1. B P2,000,000 x .54 = P1,080,000
2. B P2M x 6% x 6/12 = P60,000; P60,000 x 11.652 = P699,120
3. C P1,080,000 + P699,120 = P1,779,120
Problem 21
In connection of your audit of the liabilities of Cring-Cring Company, you noted that on December
31, 2006. The company issued P2,000,000 8% serial bonds. To be repaid in the amount of
P400,000 each year. Interest is payable annually on December 31. The bonds were issued to yields
10% a year. The bond proceeds were P1,902,800 based on the present value at December 31,
2006 of five annual payments as follows:
Due dates Principal Interest

12/31/07 P400,000 P160,000
12/31/08 400,000 128,000
12/31/09 400,000 96,000
12/31/10 400,000 64,000
12/31/11 400,000 32,000
The company uses the effective method in amortizing bond premium or discount.
Questions:
1. How much is the amortization of discount for 2007?
a. P 19,440 b. P 30,326 c. P 47,770 d. P 97,200
2. How much is the carrying value of the bonds payable as of December 31, 2007?
a. P 1,933,080 b. P 1,665,920 c. P 1,633,080 d. P 1,533,586
Solution
PV
Principal Interest Total factors Total PV
Payment Payment Payment

509,09
2007 400,000 160,000 560,000 0.90909 1
436,36
2008 400,000 128,000 528,000 0.82645 6
372,65
2009 400,000 96,000 496,000 0.75131 0
316,91
2010 400,000 64,000 464,000 0.68301 7
268,23
2011 400,000 32,000 432,000 0.62092 7
1,903,26
Total Present Value 0
2,000,00
Face value 0
96,74
Discount on BP 0
Int.
Int. paid exp. Amort Principal Book
Paymen
t Value
1,903,26
0
30,32 1,533,58
2007 160,000 190,326 6 400,000 6
25,35 1,158,94
2008 128,000 153,359 9 400,000 5
19,89 778,83
2009 96,000 115,894 4 400,000 9
13,88 392,72
2010 64,000 77,884 4 400,000 3
7,27
2011 32,000 39,272 2 400,000 -
232
Note: Ignore the present value given in the problem.
Answer:
1. P 30,326 2. P 1,533,586
Problem 22
The STEPHANY CO. sold P6,000,000 of 9% bonds on October 1, 1999, at P5,747,280 plus accrued
interest. The bonds were dated July 1, 1999; interest payable semiannually on January 1 and July
1; redeemable after June 30, 2004 to June 30, 2007, at 101, and thereafter until maturity at 100;
and convertible into P10 par value common stock as follows:
 Until June 30, 2004, at the rate of 6 shares for each P1,000 bond.
 From July 1, 2004, to June 30, 2007, at the rate of 5 shares for each P1,000 bond.
 After June 30, 2007, at the rate of 4 shares for each P1,000 bond.
The bonds mature 10 years form their issue date. The company adjust its books monthly and
closes its books as of December 31 each year.
The following transactions occur in connection with the bonds:
2005
July 1 P2,000,000 of bonds were converted into stock.
2006
Dec 31 P1,000,000 face value of bonds were reacquired at 99-1/4 plus accrued
interest. These were immediately retired.
2007
July 1 The remaining bonds were called for redemption and accrued interest
was paid. For purposes of obtaining funds for redemption and business
expansion, an P8,000,000 issue of 7% bonds was sold at 97. These bonds are dated
July 1, 2007, and are due in 20 years.
Questions
1. What is the carrying value of bonds payable at December 31, 1999?
a. P 5,747,280 b. P 6,000,000 c. P 5,753,760 d. P 5,749,440
2. What is the total interest expense for 1999?

a. P 128,520 b. P 47,160 c. P 141,480 d. P 135,000
3. In recording the bond conversion on July 1, 2005, how much should be credited to the additional
paid-in capital account?
a. P 1,796,320 b. P 1,965,440 c. P 1,845,440 d. P 1,865,440
4. What is the gain or loss on bond conversion on July 1, 2005?

a. P 0 b. P 1,796,320 c. P 1,865,440 d. P 34,560
5. What is the carrying value of the bonds reacquired on December 31, 2006?
a. P 989,200 b. P 957,880 c. P 1,010,800 d. P 981,700
6. What is the gain (loss) on bond reacquisition on December 31, 2006?

a. P 3,300 b. (P 3,300) c. P 34,620 d. (P 34,620)
7. What is the carrying value of the bonds retired on July 1, 2007?

a. P 3,000,000 b. P 2,974,080 c. P 2,873,640 d. P 3,025,920
8. What is the gain (loss) on bond retirement on July 1, 2007?

a. (P 25,920) b. P 25,920 c. (P 12,960) d. P 0
Solution
October 1, 1999 Cash 5,882,280
Discount on Bond payable 252,720
Dec. 31, 1999 Interest expense 6,480
Discount on Bond Payable 6,480
P 252,720/117 x 3 = P6,480
233
July 1, 2005 Bond payable 2,000,000

Additional paid-in capital 1,865,440
Dec. 31, 2005 Bonds payable 1,000,000
Cash 1,037,500
Cash 3,135,000
Answer:
1. C 2. C 3. D 4. A 5. A
6. B 7. B 8. A
Problem 23
On January 1, 2005, GEOFFREY Inc. issued P100,000, 10%, 10-year bonds when the market rate
of interest was 8%. Interest is payable on June 30 and December 31. The following financial
information is available.
Sales P300,000
Cost of Sales 180,000
Gross profit 120,000
Interest expense ?
Depreciation expense (14,500)
Other expenses (82,000)
Net income ?
December 31, 2005 Jan. 1, 2005

Accounts receivable P55,000 P48,000
Inventory 87,000 93,000
Accounts payable 60,000 58,000
All purchases of inventory are on account. Other expenses are paid for in cash.
The following are present value factors of P1.00 for 20 periods:
4% 5%
PV of 1 0.4564 0.3769
PV of an ordinary annuity of 1 13.5903 12.4622
The company uses the straight-line method for amortizing premiums and discounts.
Questions:
1. What is the carrying value of bonds on January 1, 2005?
a. P 113,592 b. P 100,000 c. P 86,408 d. P 112,223
2. How much was paid to bondholders for interest during 2005?

a. P 8,000 b. P 11,087 c. P 10,000 d. P 9,087
3. What is the carrying value of the bonds on December 31, 2005?

a. P 98,641 b. P 113,592 c. P 100,000 d. P 112,223
4. What is the interest expense for 2005?

a. P 8,641 b. P 10,000 c. P 5,000 d. P 6,359
5. How much was paid for inventory purchases?

a. P 172,000 b. P 186,000 c. P 184,000 d. P 174,000
6. What is Geoffrey’s net income for 2005?

a. P 13,500 b. P 17,141 c. P 23,000 d. P 14,859
7. How much was received from customers in 2003?

234
a. P 283,000 b. P 245,000 c. P 293,000 d. P 307,000
Solution
1. A Present value / carrying value of bonds on January 1, 2003:
P100,000 x 0.4564 P45,640
P100,000 x 5% = P5,000 x 13.5903 67,592
Total P113,592
2. C Cash paid for interest (P100,000 x 10%) P 10,000
3. D Face Value P100,000
Premium on bonds (P13,592 – P1,359) 12,333
Carrying value, December 31, 2005 P112,233
4. A Nominal Interest (P100,000 x 10%) P 10,000
Premium amortization (P13,592 / 10 years) (1,359)
Interest expense P 8,641
5. A Inventory Accounts Payable
Jan. 1 93,000 180,000 CDJ 58,000 Jan.1

Purchases 174,000 Payments 172,000 174,000 Purchases
Dec. 31 87,000 60,000 Dec. 31
6. D Gross Profit P120,000

Interest expense (8,641)
Depreciation expense (14,500)
Other expense (82,000)
Net Income P 14,859
7. C Accounts Receivable
Jan. 1 48,000 293,000 collections

Sales 300,000
Dec.31 55,000
Problem 6
In connection with the audit of the company’s financial statements for the year ended December
31, 2004 the Camille Corporation presented to their records. This is the first time the company has
been audited. The company issued serial bonds on April 1, 2001. Your audit showed the following
details of the issue and the accounts as of December 31, 2004.
Total face value P2, 000,000
Date of bond March 1, 2001
Total proceeds P2, 742,400
Interest rate 12% per annum
Interest payment date March 1
Maturity dates and amount
Date of maturity Amount

March 1, 2004 P 400,000
March 1, 2005 400,000
March 1, 2006 400,000
March 1, 2007 400,000
March 1, 2008 200,000
March 1, 2009 200,000
P2,000,000
Since the corporation had excess cash, bonds o0f P400,000 scheduled to be retired on March 1,
2006 were retired on April 1, 2004 at 98%.
Serial Bonds Payable

3/1/04 VR P 400,000 4/1/01 CR P 2,742,400
4/1/04 VR 396,000
Accrued Interest Payable

1/2/04 GJ P 200,000
Interest Expense
3/1/04 VR P 240,000
235
Questions:
Based on the information presented above and the result of your audit, answer the following.
1. The adjusted balance of the bonds payable accounts as of December 31, 2004 is
a. P 2,000,000 b. P 1,600,000 c. P 1,942,400 d. P 1,200,000
2. The unamortized bond premium as of December 31, 2004 should be

a. P 192,800 b. P 172,800 c. P 169,976 d. P 174,682
3. The accrued interest payable as of December 31, 2004 is

a. P 200,000 b. P 120,000 c. P 144,000 d. P 320,000
4. The bond interest expense that should be reported by the corporation for the year 2004
is
a. P 67,208 b. P 63,801 c. P 65,600 d. P 45,960
5. The gain on early retirement of bonds is

a. P 63,200 b. P 62,298 c. P 63,801 d. P 0
Solution -
Computation of amortization rate
Period covered Bond Months Peso Premium

Dates From To Outstanding Outstanding Months Amortization
2001 Apr 1 Dec. 31 2,000,000 9 18,000,000 108,000

2002 Jan 1 Dec. 31 2,000,000 12 24,000,000 144,000
2003 Jan 1 Dec. 31 2,000,000 12 24,000,000 144,000
2004 Jan 1 FEB. 28 2,000,000 2 4,000,000 24,000
Mar 1 Dec. 31 1,600,000 10 16,000,000 96,000
2005 Jan 1 FEB. 28 1,600,000 2 3,200,000 19,200
Mar 1 Dec. 31 1,200,000 10 12,000,000 72,000
2006 Jan 1 FEB. 28 1,200,000 2 2,400,000 14,400
Mar 1 Dec. 31 800,000 10 8,000,000 48,000
2007 Jan 1 FEB. 28 800,000 2 1,600,000 9,600
Mar 1 Dec. 31 400,000 10 4,000,000 24,000
2008 Jan 1 FEB. 28 400,000 2 800,000 4,800
Mar 1 Dec. 31 200,000 10 2,000,000 12,000
2009 Jan 1 FEB. 28 200,000 2 400,000 2,400
Mar 1 Dec. 31 - - - - .
95** 120,400,000 722,400
Amortization rate = Total Premium / Total peso month

= P722,400 / P120,400,000
= 0.006
*Peso months x amortization rate

**term of 96 months (8 x 12) less 1 month after date of bonds
1. D
Bonds payable (P2,000,000 –P400,000 – P400,000) 1,200,000
2. B
Total proceeds 2,742,400
Less accrued interest payable (P2,000,000 x 12% x 1/12) 20,000
Issue price 2,722,400
Less face value 2,000,000
Total bond premium 722,400
Less:
Amortization:
Prior years (2001 and 2003) 396,000
Current year (2004)
Bonds retired on maturity 4,800
(P400,000 x 0.006 x 2 mos.)
Bonds retired prior to maturity 7,200
(P400,000 x 0.006 x 3 mos.)
Remaining bonds 86,400 98,400 494,400
(P1,200,000 x 0.006 x 12 mos.)
Unamortized premium cancelled on bonds retired prior to maturity 55,200
(P400,000 x 0.006 x 23 mos.) .
Unamortized bond premium, 12/31/04 172,800
236
Alternative computation:
Remaining Amortization Unamortized
Maturity date Amount months rate premium
March 1, 2005 400,000 2 0.006 4,800
March 1, 2006 - - 0.006
March 1, 2007 400,000 26 0.006 62,400
March 1, 2008 200,000 38 0.006 45,600
March 1, 2009 200,000 50 0.006 60,000
1,200,000 172,800
3. B
Accrued interest (P1,200,000 x 12% x 10/12) 120,000
4. C
Interest expense
Remaining bonds (P1,200,000 x 12%) 144,000
Bonds retired on maturity
(P400,000 x 12% x 2/12) 8,000
Bonds retired prior to maturity
(P400,000 x 12% x 2/12) 12,000
Bond premium amortization for 2004
(see computation in no. 2) (98,400)
65,600
5. A
Retirement price (P400,000 x 98%) 392,000
Less carrying value of bonds retired:
Face value 400,000
Add unamortized bond premium, 4/1/04 to 2/28/06
(P400,000 x .006 x 23mos.) 655,200 455,200
Gain on early retirement of bonds 63,200
237

CHAPTER 8 Caselette Audit of Liabilities

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CHAPTER 8 Caselette Audit of Liabilities

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CHAPTER 8 – Audit of Liabilities

f. Voucher 751, containing a P200,000 charge to Accounts Payable. This voucher

2. The entry to adjust Voucher # 778 is

3. The entry to adjust Voucher # 741 is

4. The current liability of the company at year-end is

Item Entry Date Description Amount Account Charged

1. 12/18/07 Supplies, purchased FOB

2. 12/18/07 Auto insurance, 12/15/07

4. 12/21//07 Merchandise shipped FOB

5. 12/21/07 Payroll, 12/07/07 – 12/21/07

6. 12/26/07 Subscription to Tax Journals

7. 12/28/07 Utilities for December 2007 24,000 Utilities expense

8. 12/28/07 Merchandise shipped FOB

9. 12/28/07 Merchandise shipped FOB

10. 1/5/08 Payroll 12/21/07 – 1/05/08

12. 1/14/08 Interest on bank loan,

13. 1/15/08 Manufacturing equipment

14. 1/15/08 Dividends declared,

Accrued liabilities of 12/31/07 were as follows:

1. The entry to adjust item #2 is

2. The entry to adjust item #10 is

3. The entry to adjust item #12 is

4. The entry to adjust item #13

5. The entry to adjust item #14

7. On January 5, 2008, a warehouse containing a substantial portion of Altagracia’s inventory was

9. On January 30, 2008, Altagracia issued P5,000,000 bonds at a premium of P250,000.

Problem 4 - BONUS COMPUTATION

2. The appropriate provision for income tax for the year is

Consumer expiration date 12/31/07

2. Coupons expense at year-end is

4. Estimated liability for unredeemed coupons is

Problem 6 - DEBT RESTRUCTURING: ASSET SWAP, EQUITY SWAP AND MODIFICATION OF

1. NALOOY Bank agrees to take an equity interest in Mariana by accepting common

Problem 7 - CURRENT LIABILITY

Long-term Notes – which are payable in annual installment

2. The long-term debt at year-end is

Due date Amount

Warranty claims honored on 2005- 2006 P252,000

2. Unamortized bond discount

3. Bond interest payable

4. Total current liabilities

1. The bonds were issued on January 1, 2007 at

4. The carrying value of the bonds on July 1, 2008 is:

Debit Credit Balance

Bonds Interest Expense

Accrued Interest on Bonds

4. The journal entry to record payment of interest due on July 1, 2008?

8. The correct entry to record retirement of 100 bonds on October 1, 2008?

2. Carrying value of the bonds at December 31, 2008 is:

3. Interest expense at December 31, 2008 is:

4. Carrying value of the bonds converted is:

5. Additional paid-in capital in the conversion of bonds is:

6. Carrying value of retired bonds is:

7. Loss on early retirement of bonds is:

8. Interest expense on the bonds at December 31, 2009 is:

9. The company should record gain or loss on conversion of:

Unamortized Bond Discount, 2007 Bond Issue

Bond Interest Expense, 2007 Bond Issue

Legend: CD – Cash Disbursement

2. Amortization of bond discount is:

3. Carrying value of the bonds at year-end is:

4 The accrued interest expense at year-end is:

5. The recorded amortization of bond discount is overstated by: