Activity: Audit of Liabilities

Problem 1

United Records Company carries a variety of music promotion techniques, warranties and premiums, to attract
customers.

Musical instrument and sound equipment are sold in a one-year warranty for replacement of parts and labor. The
estimated warranty cost, based on past experience is 5% of sales.

The premium is offered on the recorded and sheet music. Customers received a coupon for two pesos spent on recorded
music or sheet music. Customers may exchange 200 coupons and P25 for an AM/FM radio. United Records pays P40 for
each radio and estimates that 85% of the coupons given to customers will be redeemed and handling fees of 5 per unit.

United Records total sales for 2022 were P2,200,000 from recorded music and sheet music. Replacement parts and
labor for warranty worked totaled P175,000 during 2022. A total of 6,000 AM/FM radio used in the premium program was
purchased during the year and there were 1,250,000 coupons redeemed in 2022.

The accrual method is used by Untied Records to account for the warranty and premium costs for financial reporting
purposes. The balance in the accounts related to the warranties and premiums on January 1, 2022 was shown below:

Inventory of Premiums AM/FM Radio P40,000

Estimated Claims Outstanding 46,000
Estimated Liability from Warranties 140,000

Also, on December 31, 2022, the estimated liability from warranties shows P215,000 balance.

Based on the above information and the result of your audit, determine the amounts that will be shown on the 2022
financial statements for the following:

1) Sales from the musical instrument and sound reproduction equipment

2) Warranty Expense
3) Premium Expense
4) Inventory of AM/FM Radio
5) Estimated Liability for Premiums
6) Journalize the transaction as occurs.

Problem 2

In conjunction with your December 31, 2022, annual audit of the financial statements of Hearthrob Company, you have
obtained and examined the December 31, 2022, 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, 2022. The payroll cash transfer was made January 3, 2023,
and payroll checks covering this pay period were distributed to factory employees on January 4, 2023.

b. Voucher 778, containing a 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 Hearthrob Company on January 1, 2022. 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, 2023 – 2033. 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, 2022, 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 2022.

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 Sweet Company for a special order of ten boxes. The P200,000 check was mailed to Sweet Company on
January 2, 2022.

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

Problem 3

Manny Pong, president of the Villasis Company, has a bonus arrangement with the company under which she receives 8%
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 P4,800,000. The bonus is deductible for tax purposes, and the tax
rate is 25%.
Questions

1. The amount of Manny Pong’s bonus is

a. P 384,000 b. P 271,698.11 c. P 288,000 d. P 356,264.16

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

a. P 1,131,075 b. P 1,200,000. c. P 1,128,000 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 384,000

Bonus payable 384,000

b. Bonus expense 271,698.11

Bonus payable 271,698.11

c. Bonus expense 288,000

Bonus payable 288,000

d. No entry

Problem 4

Diamond Corp is authorized to issue P1,000,000 of five-year bonds dated June 30, 2018 with a stated interest rate of 10%.
Interest on the bonds payable semi-annually on June 30 and December 31. The Company uses the effective interest
method. The bonds were sold to yield 8%.

Determine the following: (Round off present value factors to four decimal places)

1. Bond issue price on June 30, 2018 is

2. Interest expense for 2018 is
3. Interest expense for 2019
4. Carrying value of the bonds on December 31, 2018
5. Carrying value of the bonds on December 31, 2019