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mid1key07w - 012161le 001” Henry Sander Econ 13‘: _ '...

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Unformatted text preview: 012161le 001” Henry Sander Econ 13‘: _ ' Winter 2005 Midterm #1 Problem I (45 mins) Sonic Corporation is considering adopting a defined benefit pension plan to replace its current 401K plan. The company has 10 employees each earning $50,000 and have worked for the company 5 years at 12/31/5. The employees vary in age from 25-28 years and the plan requires the employee to work 25 years or attain the age of 55 to retire and will pay 50% of the employee’s highest salary. The company typically increases salaries by $2,000 per year and the CFO is very critical of the adoption for the following reasons. I l) -A Year 5 adoption will have a huge expense and liability related to it because of the 5 year prior service credit. It will hurt its earnings per share and debt ratios immediately. 2) He estimates the amount of the PEG to be $1,000,000 at 12/31/5 the adoption date. 5 years credit ) 0 . (50,000 x 50 /o x 10 employees x 20 years from retirement to death x 25 years of work Reguired A) Describe the benefits and the problems Sonic will receive if they make the decision to adopt a defined benefit plan. B) Describe the pros and cons of giving the employees past service credit. - ._ C) Comment on the CF 0’s advice and the amounts he calculated and indicate the errors in the calculation in 2) above You don’t have to recalculate amounts, just comment. D) Calculate pension expense for Years 6 & 7 if the actuary correctly provides the following information on the adoption date of 1/1/6. Use the year end service life for actuarial gains and losses and mdieate'theramortization' Wear—84150. E) Show all entries necessary for Years 6 & 7. Show your B/S at 12/31/6 & 7. WH PM [1.55 Doh’; 77"}; oCL Meow!“ bkLM/Ci f, Hit/T" Th‘z Hum/41, Imam ear: Assume the Co. adopts the plan and an actuary provides the following info. Calculate the B/S & I/S amount for Years 1 & 2 of the plan. Assume the MRV is 5% higher than plan assets. 1/1/6 12/31/6 12/31/7 Funding to the plan 50,000 20,000 40,000 ABO (correct) 100,000 100,000 110,000. PBO (correct) 200,000 199,850 ‘ 19”“ Service costs fer year ended 30,000 ‘ 35,000 Expected earnings rate 6% 6% Expected remaining service life 12 14 Vested benefit obligation 80,000 83,000 90,000 Discount rate _ 7% 7% Actual return on assets 12,000+ <4,000> Total actuarial gain or loss ',5_0,000G __5,QOOL incurred during the year (both PBO & asset G&L) FV plan assets 50,000 79,000 112,000 Benefits paid to empIOyees 3,000 3,000 [over] Problem 11 [15 mins) ‘ On February I, 2003, Arrow Construction Company entered into a three-year construction contract to build a bridge for a price of $8,000,000. During 2003. costs of $2,000,000 were incurred with estimated costs of $4,000,000 yet to be incurred. Billings of $2,500,000 were sent and cash collected was $2,250,000. In 2004, costs incurred were $2,500,000 with remaining costs estimated to be $3,600,000. 2004 billings were $2,750,000 and $2,475,000 cash was collected. The project was completed in 2005 after additional costs of $3,800,000 were incurred. The company’s fiscal year-end is December 31. Arrow uses the percentage-oficompletion method. ' Reguired. Calculate the amount of gross profit or loss to be recognized in each ofthe three years 2. Prepare journal entries for 2004 to record the transactions described (credit accounts payable for construction cost incurred). ' Prepare a partial balance sheet and income statement to show the presentation ofth'e project as ofDecember 3 l, 2004. ' . 4. Repeat l,2 & 3 for the completed contract method. (ifsamejust say ‘same’) 5. Discuss the pros and cons ofthe method Arrow uses and theoretically. Contrast the method they use with the completed contract method. ' L4) ‘8 Problem 111 Essays “(mins) l) Explain what alternative methods to straight line amortization exist for amortizing prior service cost in a defined benefit pension plan and theoreticallyjustify its-use. What does the FASB recommend? 2) List 4 alternative ways of recognizing revenue for a company which has sold software which the company must support for IO years. Assume the company is collecting the $ Over 10 years. Indicate the primary reasons why each choice might be appropriate and which would you choose. Which is more likely to be used on a tax return if it is allowed? 3) n ed efine nefit ' state nts. e \ E] E] ® the;:’ 401K assets but concentrate on their job performance to raise th ir s G (67 ’zoo’l Econ 136C Winter ZGQBSMidterm I Key Problem I A) They will get more focused yal employees who do not have concern about the W © NQ" ® . 3 They will incur substantial Wof maintaining the updates / actuary Pro: Con: fees / accounting fees/ funding 8: invesfing decisions). B) ‘ Pro: If we give them past credit it is more likely the loyalty in e (workers happier) because they have already completed a substanfial portion of the plan requirement or they will feel rewarded for 63 ' past efforts. Con: Because the IRS d is 5 ears and the EE’s have been anted 5 years if .«I 6 = w an EE leaves the Co., we have a and there is additional cost of the 5 or 7"" (Mr M AIM to as, A, W xix/yam Fab/WW‘W. k3 years already given. 0 {F WV C) 551:3 (55‘ Calculation # 2) is all wro because the P30 ® 1) It’s the future salary level that you’ll pay, not current. 8““672) It’ s the present value of the estimate payment. Q3) If EE’s reach age 55 they will be eligible and will most likely live more than 20 years. Q4) The total years of work will be > 25 years for all because they started < 25. .g " THeory for #1) x3 \ G l \‘ / . 63 . We Will have W in year 5 because we ha and the mafié principle demand no cost if no 6) The expemse related to past credits will be phase in over time to reflect benefit obtained from 1) _ 'ts from EE’s yet related to the plan more loyal em loyees thus EPS will not be influence. announced pension plan at 1/1/06, they would not have any liability. \ 0 i4! w 07 PM (DA, TKE (6mm m (Lamar) N M WW Wm W. 91* -~ / M 100000 0% 0 30000 (M 70000 NW" ' memo (“30007 090 )t G 7 bdévw HANG 4" CK!‘ hr [ELL (Ht {5'07 (W’2ib) 0‘“ mm ' ms!» 410...... r, amt, mm M Wm wow 393w VFW 1' Mqu Pfi“° v (shim!) (309.)? A597:- C390 67 AC Mk “U Q r it: w T J39...— q‘rn relooo3c‘s‘Q—n L. 3911 slum) B910 “Isa-r J 00 ‘J , ___.-J-—-— 2% 763 M" , 'v 7‘1" 7 I o ' 39 v M D) Pension Expense - ‘ 1n , é Year 6 6 Year 7 J: 3 \ E; g 1) Service Cost 30,000 ('9 35,000 @ w «a . ‘ 5 ‘1) 2) Interest Cost Beg. PBO X DISC. Q, 6 ' 200,000 x .07 14,000 (9 13990 m 199,850 x .07 . x i O 3) Interest Offset Be MRV X Ex . Ret Rate _ 1 *3 50,000 x 1.05 x 6% (3,150) (4,977) q 16, , v I. 79,000 x 1.05x 6% 0 @ (2,143) @ 5) Adopuox} Beg PBO ® 200,000/12 16 667 16 667 ‘ .51- 57,517 58,537 Cum. Yr. 7 50,000 G@//” . (2,143) ’Mswj52000) r. 8 42,857G . 21,482 3) ' ~21,375_G/14 = 1,5276%) \@~ ctual Gain or Loss Amortization Pension Expense 58,537 , Prep. / Accr. 70,000 Cash ‘ (FV Plan .Assets) Min. Liab. (Max Asset) (Prep / Accr. Bal.) Addl. Liab. E ' tin . x15 gAddl if,» / fies 3/ oé Amm' (73733441 ATM-Mr ?52yéfird @‘ OCT CE Mg, “>ng mwt 0%,; Cue-W A" W W3“ WWWQ) ' {IQ Q I M” x» @k f Q ’ AldA'TOG ‘9£~ 9/, T1” , "-"""" W“: - €667 r‘M/WW luoLg/L “Ju‘fl' " 1.90000 - [696:7 , 63,3359 ‘ Log . 06M»! o7 A-MT ~ mum Ammxh GM. 9 333001176— zw'b - foaoL 1 “(m P ’0 . “woe v m. ,- in,“ 9w LL o 6? 03 <3! - 9;; Coufihf QflALfi- S’ooo‘ouo 2,000,006 $000090 ' 10ml— Cows 01%” x \w\ (5,000,003 2 \oolooo ‘3/300/000 0‘! as J. 343 .—_——\ r ..__—_._ 6‘; U} 4 o EST - MFR l'mo’ a)” ® 2 3/ GOCIOOQD <\ 0 Jam. 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This note was uploaded on 01/31/2010 for the course ECON 136C taught by Professor Anderson during the Fall '08 term at UCSB.

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mid1key07w - 012161le 001” Henry Sander Econ 13‘: _ '...

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