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Koch Corporation is in the process of preparing its annual financial statements for the fiscal year ended April 30, 2021. Because all of Koch's shares are traded intrastate, the company does not have to file any reports with the Securities and Exchange Commission. The company manufactures plastic, glass, and paper containers for sale to food and drink manufacturers and distributors.

Koch Corporation maintains separate control accounts for its raw materials, work in process, and finished goods inventories for each of the three types of containers. The inventories are valued at the lower-of-cost-or-market.

The company's property, plant, and equipment are classified in the following major categories: land, office buildings, furniture and fixtures, manufacturing facilities, manufacturing equipment, and leasehold improvements. All fixed assets are carried at cost. The depreciation methods employed depend on the type of asset (its classification) and when it was acquired.

Koch Corporation plans to present the inventory and fixed asset amounts in its April 30, 2021, balance sheet as shown below.

 Inventories $4,814,200 Property, plant, and equipment (net of depreciation) 6,310,000\begin{array}{lr}\text { Inventories } & \$ 4,814,200 \\ \text { Property, plant, and equipment (net of depreciation) } & 6,310,000\end{array}


What information regarding inventories and property, plant, and equipment must be disclosed by Koch Corporation in the audited financial statements issued to stockholders, either in the body or the notes, for the 2020-2021 fiscal year?


Ace Inc. produces electronic components for sale to manufacturers of radios, television sets, and digital sound systems. In connection with her examination of Ace’s financial statements for the year ended December 31, 2018, Gloria Rodd, CPA, completed field work 2 weeks ago. Ms. Rodd now is evaluating the significance of the following items prior to preparing her auditor’s report. Except as noted, none of these items have been disclosed in the financial statements or notes.

  • Item 1: A 10-year loan agreement, which the company entered into 3 years ago, provides that dividend payments may not exceed net income earned after taxes subsequent to the date of the agreement. The balance of retained earnings at the date of the loan agreement was $420,000. From that date through December 31, 2018, net income after taxes has totaled$570,000 and cash dividends have totaled $320,000. On the basis of these data, the staff auditor assigned to this review concluded that there was no retained earnings restriction at December 31, 2018.
  • Item 2: Recently Ace interrupted its policy of paying cash dividends quarterly to its stockholders. Dividends were paid regularly through 2017, discontinued for all of 2018 to finance purchase of equipment for the company’s new plant, and resumed in the first quarter of 2019. In the annual report, dividend policy is to be discussed in the president’s letter to stockholders.
  • Item 3: A major electronics firm has introduced a line of products that will compete directly with Ace’s primary line, now being produced in the specially designed new plant. Because of manufacturing innovations, the competitor’s line will be of comparable quality but priced 50% below Ace’s line. The competitor announced its new line during the week following completion of field work. Ms. Rodd read the announcement in the newspaper and discussed the situation by telephone with Ace executives. Ace will meet the lower prices that are high enough to cover variable manufacturing and selling expenses but will permit recovery of only a portion of fixed costs.
  • Item 4: The company’s new manufacturing plant building, which cost$2,400,000 and has an estimated life of 25 years, is leased from Wichita National Bank at an annual rental of $600,000. The company is obligated to pay property taxes, insurance, and maintenance. At the conclusion of its 10-year noncancelable lease, the company has the option of purchasing the property for$1. In Ace’s income statement, the rental payment is reported on a separate line.

For each of the above items, discuss any additional disclosures in the financial statements and notes that the auditor should recommend to her client. (The cumulative effect of the four items should not be considered.)


Answered 2 years ago
Answered 2 years ago

Additional Note Disclosures-Ace Inc.\text{\underline{\textit{Additional Note Disclosures-Ace Inc.}}}

  • Item 1:\text{\underline{\textit{Item 1:}}} - It should be declared in the Notes Disclosure that the staff erroneously reported that there is no Retained Earnings for the year. The balance and restrictions of Retained Earnings is $420,000.00\$420,000.00, and should be included in the disclosure.
  • Item 2:\text{\underline{\textit{Item 2:}}} - Companies are encouraged to disclose their dividend policies and any related changes, if there is. This is especially true if the company failed to pay for the cash dividends. They should also mention in the disclosure if they are going to retain the same policy in the coming period.
  • Item 3:\text{\underline{\textit{Item 3:}}} - If the new product has a significant effect on the company's financial health and economic status, the company needs to include this on their disclosure to assist the reader of the financial statement with their future decisions. Although the amounts concerned are not mentioned and cannot be determined, this subsequent event might have an effect with the companies Inventory, Sales and Cash Flow. This can be determined using the financial ratios. They might also need this information for possible product improvement or other financing decisions to keep up with the impact of the company's new product line considering that it will directly compete with the prime product of Ace, Inc.
  • Item 4:\text{\underline{\textit{Item 4:}}} - The lease agreement should be considered as a Capital Lease as it has a bargain purchase option of $1\$1 at the end of 10-years. Also, with the given amounts, the present value of the asset is less than its cost by a significant percentage. Therefore, the company should capitalize the asset and in the company's note disclosure, it should include:

(1) Clear and complete description of the lease agreement.

(2) The gross amount of the leased asset (with accumulated depreciation).

(3) The future minimum lease payments for each five succeeding fiscal year(with imputed interest).

(4) The terms of the purchase option.

(5) Income Statement include the depreciation and interest related to the asset.

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