NAME

__________________________________________________________________

FINAL EXAMINATION
ACCOUNTING 302
FALL 2006
(December 12th ; 10:30am 12:30pm)

This exam consists of 11 pages, including this cover.

Please put your name at the top of this page and initial the other test pages.
For multiple choice questions, circle the best answer.
Unless indicated otherwise, questions are worth 4 points each.
There are 140 total points for the exam.

Please have a wonderful break and holidays.

Larry

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

1. On July 1, 2007, YANG signed an agreement to operate as a franchisee of Kwik Foods, Inc., for
an initial franchise fee of $180,000. Of this amount, $60,000 was paid when the agreement was
signed and the balance is payable in four equal annual payments of $30,000 beginning July 1,
2008. The agreement provides that the down payment is not refundable and no future services
are required of the franchisor. YANG's credit rating indicates that he can borrow money at 14%
for a loan of this type. Use your financial calculator or the tables attached.
What $ amount should YANG record as the acquisition cost of the franchise on July 1, 2007? [4 pts.]

2. PAI Company entered into a lease that covers office equipment which could be purchased for
$36,048. PAI Company has, however, chosen to lease the equipment for $10,000 per year,
payable at the end of each of the next 5 years. What is the implied interest rate for the lease
payments?

3. When funds are borrowed to pay for construction of assets that qualify for capitalization of
interest, the excess funds not needed to pay for construction may be temporarily invested in
interest-bearing securities. Interest earned on these temporary investments should be
A. offset against interest cost incurred during construction.
B. used to reduce the cost of assets being constructed.
C. multiplied by an appropriate interest rate to determine the amount of interest to be
capitalized.
D. recognized as revenue of the period.

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

4. The RENSLOW Corporation exchanges one plant asset for a similar plant asset and gives cash in
the exchange. The exchange is not expected to cause a material change in the future cash flows
for either entity. If a gain on the disposal of the old asset is indicated, the gain will
A. be reported in the Other Revenues and Gains section of the income statement.
B. effectively reduce the amount to be recorded as the cost of the new asset.
C. effectively increase the amount to be recorded as the cost of the new asset.
D. be credited directly to the owner's capital account.
5. In class and in the text, accounting for costs subsequent to acquisition was discussed. The
general rule is to capitalize costs that achieve greater future benefits. Give three ways to define
greater future benefits. [4 pts.]

6. Dividends representing a return of capital to stockholders are not uncommon among companies
which
A. use accelerated depreciation methods.
B. use straight-line depreciation methods.
C. recognize both functional and physical factors in depreciation.
D. none of these.
7. Starr Company purchased a depreciable asset for $150,000. The estimated salvage value is
$10,000, and the estimated useful life is 8 years. The double-declining balance method will be
used for depreciation. What is the depreciation expense for the second year on this asset?

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

8. ICBAN Corporation purchased a patent for $180,000 on September 1, 2006. It had a useful life of
10 years. On January 1, 2008, ICBAN spent $44,000 to successfully defend the patent in a
lawsuit. ICBAN feels that as of that date, the remaining useful life is 5 years. If ICBAN uses the
nearest-full-month basis to compute depreciation expense, what amount should be reported for
patent amortization expense for 2008?

9. JONES Company purchases KUMAR Company for $800,000 cash on January 1, 2007. The
book value of KUMAR Companys net assets, as reflected on its December 31, 2006 balance
sheet is $620,000. An analysis by JONES on December 31, 2006 indicates that the fair value of
KUMARs tangible assets exceeded the book value by $60,000, and the fair value of identifiable
intangible assets exceeded book value by $45,000. How much goodwill should be recognized by
JONES Company when recording the purchase of KUMAR Company?

10. Current accounting rules (FASB #2) require that R&D costs be expensed in the period incurred.
At what point would costs cease to be classified as R&D? (or R&D costs pertain to activities that
occur prior to what point?)

11. The FANG Company was sued by a customer who slipped on an icy sidewalk in front of one of
its stores. The company lawyers expect that the customer probably will win damages at trial.
The lawyers further estimate that the most the customer will be awarded is $750,000 and the
minimum amount is $500,000. No amount appears more likely within this range. What
amount should FANG accrue as a liability?

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

12. DAVIS Electronics sells big screen TVs. One brand it sells is NG which are priced at $1,900
each. NG offers all buys of its TVs a one-year manufactures warranty that covers all
repairs. In addition, DAVIS offers all its customers an extended one-year warranty that
covers repairs for the second year after purchase. The extended warranties cost the customers
$125 per TV. On 1/3/2006, DAVIS sold 100 NG TVs and 50 extended warranties with these
TVs. Below provide the journal entry the DAVIS made to record the sales of NG TVs and
extended warranties on 1/3/2006. [4 pts.]

13. When you account for bonds payable, you first construct a bond amortization table. If you
issue a bond at a premium, the Premium on Bonds Payable account starts out with a balance
that reflects the original amount the market paid in excess of the face value of the bond.
Over time what happens to the balance in the premium account? Assume the effectiveinterest rate method is used, does the premium account change more at the beginning or the
end of the time to maturity?

14. On December 31, 2006, RAFIQ Co. is in financial difficulty and cannot pay a note due that day.

It is a $500,000 note with $50,000 accrued interest payable to WONG, Inc. WONG agrees to
forgive the accrued interest, extend the maturity date to December 31, 2008, and reduce the
interest rate to 4%. The present value of the restructured cash flows is $428,000. [6 pts.]
Below provide RAFIQs journal entries for the following:
(a) The restructure on RAFIQs books.
(b) The payment of interest on December 31, 2007.

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

15. The FLEMING Company issued 10-year bonds with a face amount of $100 million. Issue
costs totaled 15% of the face of debt for underwriter, lawyer, and accountant services. The
bonds were issued at 102. Below provide the journal entry that FLEMING made to record
the issuance of the bonds.

16. When a creditor realizes that it is probable that she will not be able to collect all amounts due
according to the terms of debt, what calculation does the creditor make to get the amount of
impairment loss (give the formula).

17. MANDELL, Inc., which owes ZAVECZ Co. $800,000 in notes payable and $45,000 interest
payable, is in financial difficulty. To eliminate the debt, ZAVECZ agrees to accept from
MANDELL land having a fair market value of $610,000 and a recorded cost of $450,000.
Below provide the journal entries that MANDELL would make to record the disposal of land
and settlement of this troubled debt. [6 pts.]

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

18. On 1/3/2006, HAZELETT paid $100 million for 25% of QUESSY Companys voting stock. At
the time of purchase, QUESSYs market value of net identifiable assets was $330 million and
book value was $310 million. The following is also known about QUESSY:
QUESSYs
Book Value
Market Value
Depreciable assets
$ 80 million
$ 86 million
Land
$100 million
$113 million
Inventory
$ 20 million
$ 21 million
At the end of 2006, QUESSY reported net income of $28 million and declared and paid $2
million in dividends. For depreciation, QUESSY uses straight-line and 5 years remain.
Below provide all of the journal entries that HAZELETT would make during 2006 related to
its investment in QUESSY. [10 pts.]

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

19. On December 31, 2006, JENNINGS Co. purchased equity securities as trading securities.
Pertinent data are as follows:
Fair Value
Security
Cost__
On 12/31/07
A
$132,000
$117,000
B
168,000
186,000
C
288,000
258,000
On December 31, 2007, JENNINGS transferred its investment in security C from trading to
available-for-sale because JENNINGS intends to retain security C as a long-term investment.
What total amount of gain or loss on securities should be included in JENNINGS income
statement for the year ended December 31, 2007?
A. $3,000 gain.
B. $27,000 loss.
C. $30,000 loss.
D. $45,000 loss.
E. $0: no gain or loss.
20. Briefly discuss what you need to do if you change from the Equity method to another method
for accounting for investments.

21. Briefly discuss what needs to be done if you switch from another method to the Equity method
for accounting for investments.

22. For accounting purposes derivatives held for the purpose of hedging are divided into two main
types. What are they?

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

23. Usually, what types of institutions or industries or companies would classify investments in
equity securities as Trading Securities?

24. Four criteria were discussed that determine whether a lease is classified as operating or
nonoperating. The first three are relatively easy to get around but the fourth (90%) is harder.
What are two common ways that lessees use to get around the fourth criteria?

25. Assume that a lease is classified as sales-type. In what section would cash payments from
lessees be listed on the lessors Statement of Cash Flows?

26. In computing the present value of the minimum lease payments, the lessee should
A. use its incremental borrowing rate in all cases.
B. use either its incremental borrowing rate or the implicit rate of the lessor, whichever is
higher, assuming that the implicit rate is known to the lessee.
C. use either its incremental borrowing rate or the implicit rate of the lessor, whichever is
lower, assuming that the implicit rate is known to the lessee.
D. none of these.
27. Which of the following would not be included in the Lease Receivable account?
A. Guaranteed residual value.
B. Unguaranteed residual value.
C. A bargain purchase option.
D. All the above would be included.

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Accounting 302

Fall 2006

FINAL EXAM

Initial ______

28. On January 1, 2008, Dexter, Inc. signs a 10-year noncancelable lease agreement to lease a
storage building from Garr Warehouse Company. Collectibility of lease payments is reasonably
predictable and no important uncertainties surround the amount of costs yet to be incurred by the
lessor. The following information pertains to this lease agreement.
(a) The agreement requires equal rental payments at the end of each year.
(b) The fair value of the building on January 1, 2008 is $3,000,000; however, the book value to
Garr is $2,500,000.
(c) The building has an estimated economic life of 10 years, with no residual value. Dexter
depreciates similar buildings on the straight-line method.
(d) At the termination of the lease, the title to the building will be transferred to the lessee.
(e) Dexter's incremental borrowing rate is 11% per year. Garr Warehouse Co. set the annual
rental to insure a 10% rate of return. The implicit rate of the lessor is known by Dexter, Inc.
(f) The yearly rental payment includes $10,000 of executory costs related to taxes on the
property.
What is the amount of the minimum annual lease payment? (Rounded to the nearest dollar.)

What is the amount of the total annual lease payment? [3 pts.]

From the lessor's viewpoint, what type of lease is involved?

From the lessee's viewpoint, what type of lease exists in this case? [3 pts.]

Dexter, Inc. would record depreciation expense on this storage building in 2008 of (Rounded
to the nearest dollar.)

If the lease were nonrenewable, there was no purchase option, title to the building does not
pass to the lessee at termination of the lease and the lease were only for eight years, what
type of lease would this be for the lessee?

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Accounting 302

Period
1
2
3
4
5
6
7
8
9
10
.
20
24

Fall 2006

5%
1.00000
2.05000
3.15250
4.31013
5.52563
6.80191
8.14201
9.54911
11.02656
12.57789
.
33.06595
44.50200

Period
5%
1
0.95238
2
1.85941
3
2.72325
4
3.54595
5
4.32948
6
5.07569
7
5.78637
8
6.46321
9
7.10782
10
7.72173
.
20
12.46221
24
13.79864

FINAL EXAM

Initial ______

Future Value of Ordinary Annuity of 1

6%
8%
10%
1.00000
1.00000
1.00000
2.06000
2.08000
2.10000
3.18360
3.24640
3.31000
4.37462
4.50611
4.64100
5.63709
5.86660
6.10510
6.97532
7.33592
7.71561
8.39384
8.92280
9.48717
9.89747
10.63663
11.43589
11.49132
12.48756
13.57948
13.18079
14.48656
15.93743
.
.
.
36.78559
45.76196
57.27500
50.81558
66.76476
88.49733

12%
1.00000
2.12000
3.37440
4.77933
6.35285
8.11519
10.08901
12.29969
14.77566
17.54874
.
72.05244
118.15524

14%
1.00000
2.14000
3.43960
4.92114
6.61010
8.53552
10.73049
13.23276
16.08535
19.33730
.
91.02493
158.65862

Present Value of an Ordinary Annuity of 1

6%
8%
10%
0.94340
0.92593
0.90909
1.83339
1.78326
1.73554
2.67301
2.57710
2.48685
3.46511
3.31213
3.16986
4.21236
3.99271
3.79079
4.91732
4.62288
4.35526
5.58238
5.20637
4.86842
6.20979
5.74664
5.33493
6.80169
6.24689
5.75902
7.36009
6.71008
6.14457

12%
0.89286
1.69005
2.40183
3.03735
3.60478
4.11141
4.56376
4.96764
5.32825
5.65022

14%
0.87719
1.64666
2.32163
2.91371
3.43308
3.88867
4.28830
4.63886
4.94637
5.21612

11.46992
12.55036

7.46944
7.78432

6.62313
6.83514

9.81815
10.52876

8.51356
8.98474

(To convert an ordinary annuity to an annuity due, multiply the above factors by 1+r)

Period
4
5
10
20
24

5%
0.82270
0.78353
0.61391
0.37689
0.31007

Present Value of 1 (present value of a single sum)

6%
8%
10%
12%
0.79209
0.73503
0.68301
0.63552
0.74726
0.68058
0.62092
0.56743
0.55839
0.46319
0.38554
0.32197
0.31180
0.21455
0.14864
0.10367
0.24689
0.15770...........0.10153
0.06588

14%
0.59208
0.51937
0.26974
0.07276
0.04308

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

1. On July 1, 2007, YANG signed an agreement to operate as a franchisee of Kwik Foods, Inc., for
an initial franchise fee of $180,000. Of this amount, $60,000 was paid when the agreement was
signed and the balance is payable in four equal annual payments of $30,000 beginning July 1,
2008. The agreement provides that the down payment is not refundable and no future services
are required of the franchisor. YANG's credit rating indicates that he can borrow money at 14%
for a loan of this type. Use your financial calculator or the tables attached.
What $ amount should YANG record as the acquisition cost of the franchise on July 1, 2007? [4 pts.]

PV = $60,000 + (2.91*$30,000) = $147,300

2. PAI Company entered into a lease that covers office equipment which could be purchased for
$36,048. PAI Company has, however, chosen to lease the equipment for $10,000 per year,
payable at the end of each of the next 5 years. What is the implied interest rate for the lease
payments?
$10,000 (factor for Present Value of Ordinary Annuity for 5 yrs.) = $36,048
Factor for Present Value of Ordinary Annuity for 5 yrs. = $36,048 $10,000
= 3.6048
The 3.6048 factor implies a 12% interest rate.

3. When funds are borrowed to pay for construction of assets that qualify for capitalization of
interest, the excess funds not needed to pay for construction may be temporarily invested in
interest-bearing securities. Interest earned on these temporary investments should be
A. offset against interest cost incurred during construction.
B. used to reduce the cost of assets being constructed.
C. multiplied by an appropriate interest rate to determine the amount of interest to be
capitalized.
D. recognized as revenue of the period.

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

4. The RENSLOW Corporation exchanges one plant asset for a similar plant asset and gives cash in
the exchange. The exchange is not expected to cause a material change in the future cash flows
for either entity. If a gain on the disposal of the old asset is indicated, the gain will
A. be reported in the Other Revenues and Gains section of the income statement.
B. effectively reduce the amount to be recorded as the cost of the new asset.
C. effectively increase the amount to be recorded as the cost of the new asset.
D. be credited directly to the owner's capital account.
5. In class and in the text, accounting for costs subsequent to acquisition was discussed. The
general rule is to capitalize costs that achieve greater future benefits. Give three ways to define
greater future benefits. [4 pts.]
1. Increased throughput or decrease unit cost
2. Increased useful life of asset
3. Increased quality

6. Dividends representing a return of capital to stockholders are not uncommon among companies
which
A. use accelerated depreciation methods.
B. use straight-line depreciation methods.
C. recognize both functional and physical factors in depreciation.
D. none of these.
7. Starr Company purchased a depreciable asset for $150,000. The estimated salvage value is
$10,000, and the estimated useful life is 8 years. The double-declining balance method will be
used for depreciation. What is the depreciation expense for the second year on this asset?
2X sl rate = 2*12.5% = 25%
year 1 D.E. = .25 * $150,000 = $37,500 BV = $112,500
year 2 D.E. = 0.25 * $112,500 = $28,125
.

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

8. ICBAN Corporation purchased a patent for $180,000 on September 1, 2006. It had a useful life of
10 years. On January 1, 2008, ICBAN spent $44,000 to successfully defend the patent in a
lawsuit. ICBAN feels that as of that date, the remaining useful life is 5 years. If ICBAN uses the
nearest-full-month basis to compute depreciation expense. What amount should be reported for
patent amortization expense for 2008?
Amort 2006 = (4/12)*18 = $6,000 Amort. 2007 = $18,000; 180 -24 + 44 = 200; 200/5 =
$40,000

9. JONES Company purchases KUMAR Company for $800,000 cash on January 1, 2007. The
book value of KUMAR Companys net assets, as reflected on its December 31, 2006 balance
sheet is $620,000. An analysis by JONES on December 31, 2006 indicates that the fair value of
KUMARs tangible assets exceeded the book value by $60,000, and the fair value of identifiable
intangible assets exceeded book value by $45,000. How much goodwill should be recognized by
JONES Company when recording the purchase of KUMAR Company?
620 + 60 + 45 = 725; 800 725 = $75,000

10. Current accounting rules (FASB #2) require that R&D costs be expensed in the period incurred.
At what point would costs cease to be classified as R&D? (or R&D costs pertain to activities that
occur prior to what point?)

Start of commercial production

11. The FANG Company was sued by a customer who slipped on an icy sidewalk in front of one of
its stores. The company lawyers expect that the customer probably will win damages at trial.
The lawyers further estimate that the most the customer will be awarded is $750,000 and the
minimum amount is $500,000. No amount appears more likely within this range. What
amount should FANG accrue as a liability?
$500,000

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

12. DAVIS Electronics sells big screen TVs. One brand it sells is NG which are priced at $1,900
each. NG offers all buys of its TVs a one-year manufactures warranty that covers all
repairs. In addition, DAVIS offers all its customers an extended one-year warranty that
covers repairs for the second year after purchase. The extended warranties cost the customers
$125 per TV. On 1/3/2006, DAVIS sold 100 NG TVs and 50 extended warranties with these
TVs. Below provide the journal entry the DAVIS made to record the sales of NG TVs and
extended warranties on 1/3/2006. [4 pts.]
Cash

$196,250 ($190,000 + 6,250)

Sales
$190,000
Unearned Warranty Revenue
6,250

13. When you account for bonds payable, you first construct a bond amortization table. If you
issue a bond at a premium, the Premium on Bonds Payable account starts out with a balance
that reflects the original amount the market paid in excess of the face value of the bond.
Over time what happens to the balance in the premium account? Assume the effectiveinterest rate method is used, does the premium account change more at the beginning or the
end of the time to maturity?
The premium account balance decreases (goes to zero).
The decrease is more at the end (concave). Decreases at an increasing rate.

14. On December 31, 2006, RAFIQ Co. is in financial difficulty and cannot pay a note due that day.

It is a $500,000 note with $50,000 accrued interest payable to WONG, Inc. WONG agrees to
forgive the accrued interest, extend the maturity date to December 31, 2008, and reduce the
interest rate to 4%. The present value of the restructured cash flows is $428,000. [6 pts.]
Below provide RAFIQs journal entries for the following:
(a) The restructure on RAFIQs books.
(b) The payment of interest on December 31, 2007.
(a) Interest Payable................................................................................
Notes Payable ($500,000 4% 2).....................................
Gain on Restructuring..........................................................

50,000

(b) Notes Payable ($500,000 * 4%).......................................................

Cash......................................................................................

20,000

40,000
10,000
20,000

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

15. The FLEMING Company issued 10-year bonds with a face amount of $100 million. Issue
costs totaled 15% of the face of debt for underwriter, lawyer, and accountant services. The
bonds were issued at 102. Below provide the journal entry that FLEMING made to record
the issuance of the bonds.
Cash
$187,000,000
Debt Issue Costs
15,000,000
Bonds Payable
$100,000,000
Premium on B/P
2,000,000

16. When a creditor realizes that it is probable that she will not be able to collect all amounts due
according to the terms of debt, what calculation does the creditor make to get the amount of
impairment loss (give the formula).
Impairment loss = CV of loan PV(using original rate) of all future cash flows.

17. MANDELL, Inc., which owes ZAVECZ Co. $800,000 in notes payable and $45,000 interest
payable, is in financial difficulty. To eliminate the debt, ZAVECZ agrees to accept from
MANDELL land having a fair market value of $610,000 and a recorded cost of $450,000.
Below provide the journal entries that MANDELL would make to record the disposal of land
and settlement of this troubled debt. [6 pts.]
Notes Payable.......................................................... $800,000
Interest Payable.......................................................
45,000
Land............................................................
Gain on Disposition of Land.......................
Gain on Settlement of Debt.........................

$450,000
160,000
235,000

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

18. On 1/3/2006, HAZELETT paid $100 million for 25% of QUESSY Companys voting stock. At
the time of purchase, QUESSYs market value of net identifiable assets was $330 million and
book value was $310 million. The following is also known about QUESSY:
QUESSYs
Book Value
Market Value
Depreciable assets
$ 80 million
$ 86 million
Land
$100 million
$113 million
Inventory
$ 20 million
$ 21 million
At the end of 2006, QUESSY reported net income of $28 million and declared and paid $2
million in dividends. For depreciation, QUESSY uses straight-line and 5 years remain.
Below provide all of the journal entries that HAZELETT would make during 2006 related to
its investment in QUESSY. [10 pts.]
Investment in QUESSY
Cash
Investment in QUESSY
Investment Revenue
Cash

$100,000,000
$100,000,000
$7,000,000
$7,000,000
$500,000

Investment in QUESSY

$500,000

Investment Revenue
Investment in QUESSY

$300,000

Investment Revenue
Investment in QUESSY

$250,000

$300,000
$250,000

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

19. On December 31, 2006, JENNINGS Co. purchased equity securities as trading securities.
Pertinent data are as follows:
Fair Value
Security
Cost__
On 12/31/07
A
$132,000
$117,000
B
168,000
186,000
C
288,000
258,000
On December 31, 2007, JENNINGS transferred its investment in security C from trading to
available-for-sale because JENNINGS intends to retain security C as a long-term investment.
What total amount of gain or loss on securities should be included in JENNINGS income
statement for the year ended December 31, 2007?
A. $3,000 gain.
B. $27,000 loss.
C. $30,000 loss.
D. $45,000 loss.
E. $0: no gain or loss.
20. Briefly discuss what you need to do if you change from the Equity method to another method
for accounting for investments.
Nothing, just use the balance in the investment account as the basis for the new method.

21. Briefly discuss what needs to be done if you switch from another method to the Equity method
for accounting for investments.
Retroactive treatment is required, go back and treat investment as if it had been Equity
method all along! Restate NI for each year and adj. beginning RE for the earliest period
shown.

22. For accounting purposes derivatives held for the purpose of hedging are divided into two main
types. What are they?
(1) Fair-value hedges and (2) Cash-flow hedges.

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

23. Usually, what types of institutions or industries or companies would classify investments in
equity securities as Trading Securities?
Banks or other financial operations
24. Four criteria were discussed that determine whether a lease is classified as operating or
nonoperating. The first three are relatively easy to get around but the fourth (90%) is harder.
What are two common ways that lessees use to get around the fourth criteria?
(1) use 3d party to guarantee the residual value.
(2) use higher interest rate than the lessors rate.

25. Assume that a lease is classified as sales-type. In what section would cash payments from
lessees be listed on the lessors Statement of Cash Flows?
All cash inflows would be listed under Operating Activities.
26. In computing the present value of the minimum lease payments, the lessee should
A. use its incremental borrowing rate in all cases.
B. use either its incremental borrowing rate or the implicit rate of the lessor, whichever is
higher, assuming that the implicit rate is known to the lessee.
C. use either its incremental borrowing rate or the implicit rate of the lessor, whichever is
lower, assuming that the implicit rate is known to the lessee.
D. none of these.
27. Which of the following would not be included in the Lease Receivable account?
A. Guaranteed residual value.
B. Unguaranteed residual value.
C. A bargain purchase option.
D. All the above would be included.

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Accounting 302

Fall 2006

FINAL EXAM

************* KEY ************

28. On January 1, 2008, Dexter, Inc. signs a 10-year noncancelable lease agreement to lease a
storage building from Garr Warehouse Company. Collectibility of lease payments is reasonably
predictable and no important uncertainties surround the amount of costs yet to be incurred by the
lessor. The following information pertains to this lease agreement.
(a) The agreement requires equal rental payments at the end of each year.
(b) The fair value of the building on January 1, 2008 is $3,000,000; however, the book value to
Garr is $2,500,000.
(c) The building has an estimated economic life of 10 years, with no residual value. Dexter
depreciates similar buildings on the straight-line method.
(d) At the termination of the lease, the title to the building will be transferred to the lessee.
(e) Dexter's incremental borrowing rate is 11% per year. Garr Warehouse Co. set the annual
rental to insure a 10% rate of return. The implicit rate of the lessor is known by Dexter, Inc.
(f) The yearly rental payment includes $10,000 of executory costs related to taxes on the
property.
What is the amount of the minimum annual lease payment? (Rounded to the nearest dollar.)
$488,236

(PVAF(10,10%) = 6.14457; $3M/6.114457 = $488,236)

What is the amount of the total annual lease payment? [3 pts.]

$498,237
From the lessor's viewpoint, what type of lease is involved?
Sales-type lease
From the lessee's viewpoint, what type of lease exists in this case? [3 pts.]
Capital lease
Dexter, Inc. would record depreciation expense on this storage building in 2008 of (Rounded
to the nearest dollar.)
$300,000.

(= $3M / 10 yr.)

If the lease were nonrenewable, there was no purchase option, title to the building does not
pass to the lessee at termination of the lease and the lease were only for eight years, what
type of lease would this be for the lessee?
Capital lease (8/10 = 80% > 75%)

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