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Chapter 11 - Solution Manual

Management strategy do not meet the criteria for

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management strategy do not meet the criteria for classification as extraordinary items and therefore should not be classified as extraordinary. Case 11-6 a. Angela should report the estimated loss from the safety hazard as an expense in the income statement and a liability in the balance sheet because both of the following conditions were met. * It is considered probable that liabilities have been incurred. * Based on past experience, a reasonable estimate of the amount of loss can be made. In addition, Angela should disclose the nature of the safety hazard in the notes to the financial statements. b. Angela should not report the estimated loss from the noninsurable flood risk as an expense in the income statement or a liability in the balance sheet because no losses have occurred since the warehouse has been uninsured and the asset has not been impaired. Thus, a loss should not be recognized and a liability does not exist. Furthermore, disclosure of the noninsurable risk in the notes to the financial statements is not required because no losses have occurred since the
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220 warehouse has been uninsured. Disclosure in the notes to the financial statements is, however, permitted. c. The purchase of movie tickets should be accounted for by debiting an asset account--movie tickets inventory--and crediting cash. An accrual for the estimated promotion expense and liability should be accounted for by debiting promotion expense and crediting an accrued liability for those costs associated with 60 percent of the coupons issued. The coupons actually redeemed this year should be accounted for by debiting the accrued liability and crediting the asset account--movie tickets inventory--for 40 percent of the coupons. Case 11-7 a.i. A note received in exchange for property, goods, or services should be recorded at its present value which is presumably the value of the property exchanged. In the case of a note bearing interest at a reasonable rate and issued in an arm's-length transaction, the face value of the note should be used, as explained below. A note received for property, goods, or services represents two elements which may or may not be stipulated in the note: (1) the principal amount, equivalent to the bargained exchange price of the property, goods or services as established between the seller and the buyer and (2) an interest factor to compensate the seller over the life of the note for the use of funds he would have received in a cash transaction at the time of the exchange. Notes so exchanged are accordingly valued and accounted for at the present value of the consideration exchanged between the contracting parties at the date of the transaction in a manner similar to that followed for a cash transaction. When a note is exchanged for property, goods, or services in a bargained transaction entered into at arm's-length, there is a presumption that the rate of interest stipulated by the parties to the transaction represents fair and adequate compensation to the seller for the use of the related funds. In these circumstances the note's present value is identical with its face value.
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