E18.29 (LO4) (Contract Modification) In September 2019, Gaertner Corp.

commits to selling 150 of its iPhone-compatible

docking stations to Better Buy Co. for $15,000 ($100 per product). The stations are delivered to Better Buy over the next 6 months.
After 90 stations are delivered, the contract is modified and Gaertner promises to deliver an additional 45 products for an additional
$4,275 ($95 per station). All sales are cash on delivery.
Instructions
a. Prepare the journal entry for Gaertner for the sale of the first 90 stations. The cost of each station is $54.
b. Prepare the journal entry for the sale of 10 more stations after the contract modification, assuming that the price for the
additional stations reflects the standalone selling price at the time of the contract modification. In addition, the additional stations
are distinct from the original products as Gaertner regularly sells the products separately.
c. Prepare the journal entry for the sale of 10 more stations (as in (b)), assuming that the pricing for the additional products does
not reflect the standalone selling price of the additional products and the prospective method is used.
EXERCISE 18.29 (20–25 minutes)

(a) Cash 9,000

Sales Revenue (90 X $100) 9,000

Cost of Goods Sold 4,860

Inventory (90 X $54) 4,860

(b) Cash 1,000

Sales Revenue (10 X $100) 1,000

Cost of Goods Sold 540

Inventory (10 X $54) 540

In this situation, the contract modification for the additional 45 products is, in effect, a new and separate contract
for future products that does not affect the accounting for the previously existing contract.

(c) In this case, because the new price does not reflect a stand-alone selling price, Gaertner allocates a modified
transaction price (less the amounts allocated to products transferred at or before the date of the modification) to all
remaining products to be transferred.
EXERCISE 18.29 (continued)

Under the prospective approach, Gaertner determines the transaction price for subsequent sales ($97.86) as
follows.

Consideration for products not yet delivered

under original contract ($100 X 60) $ 6,000
Consideration for products to be delivered
under the contract modification ($95 X 45) 4,275
Total remaining revenue $10,275
Revenue per remaining unit ($10 ,275 ¸ 105) = $97.86.

As indicated, the numerator includes products not yet transferred under original contract ($100 X 60) plus products
to be transferred under the contract modification ($95 X 45), which is divided by the remaining 105 products.

The journal entries to record subsequent sales and related cost of goods sold for 10 units is as follows.

Cash (10 X $100) 1,000

Unearned Revenue 21.40
Sales Revenue (10 X $97.86) 978.60

Cost of Goods Sold 540.00

Inventory 540.00
E18.31 (LO4) (Contract Costs) Rex's Reclaimers entered into a contract with Dan's Demolition to manage the processing of
recycled materials on Dan's various demolition projects. Services for the 3-year contract include collecting, sorting, and
transporting reclaimed materials to recycling centers or contractors who will reuse them. Rex's incurs selling commission costs of
€2,000 to obtain the contract. Before performing the services, Rex's also designs and builds receptacles and loading equipment
that interface with Dan's demolition equipment at a cost of €27,000. These receptacles and equipment are retained by Rex's and
can be used for other projects. Dan's promises to pay a fixed fee of €12,000 per year, payable every 6 months for the services
under the contract. Rex's incurs the following costs: design services for the receptacles to interface with Dan's equipment €3,000,
loading equipment controllers €6,000, and special testing and inspection fees €2,000 (some of Dan's projects are on government
property).
Instructions
a. Determine the costs that should be capitalized as part of Rex's Reclaimers revenue arrangement with Dan's Demolition.
b. Dan's also expects to incur general and administrative costs related to this contract, as well as costs of wasted materials and
labor that likely cannot be factored into the contract price. Can these costs be capitalized? Explain.
EXERCISE 18.31 (10–15 minutes)

(a) The €2,000 commission costs related to obtaining the contract are recognized as an asset. The design services
(€3,000), controllers (€6,000), testing and inspection fees (€2,000) should be capitalized as well, as they are
specific to the contract.

The €27,000 cost for the receptacles and loading equipment appear to be independent of the contract, as Rex
will retain these and likely use them in other projects.

(b)Companies only capitalize costs that are direct, incremental, and recoverable (assuming that the contract
period is more than one year. General and administrative costs (unless those costs are explicitly chargeable
to the customer under the contract) and wasted materials and labor are not eligible for capitalization and
should be expensed as incurred.
E18.32 (LO4) (Contract Costs, Collectibility) Refer to the information in E18.31.
Instructions
a. Does the accounting for capitalized costs change if the contract is for 1 year rather than 3 years? Explain.
b. Dan's Demolition is a startup company; as a result, there is more than insignificant uncertainty about Dan's ability to make the
6-month payments on time. Does this uncertainty affect the amount of revenue to be recognized under the contract? Explain.
EXERCISE 18.32 (20–25 minutes)

(a) If the contract is for 1 year or less, Rex can use the practical expedient and recognize the incremental costs of
obtaining a contract as an expense when incurred.

(b) The collectibility of the contract payments will not affect the amount of revenue recognized. That is, the amount
recognized is not adjusted for customer credit risk. Rather, Rex should report the revenue gross and then present an
allowance for any impairment due to bad debts (recognized initially and subsequently in accordance with the
respective bad debt guidance) prominently as an expense in the income statement. If there is significant doubt at
contract inception about collectibility, this may indicate that the parties to the contract are not committed to
perform their respective obligations to the contract (i.e., existence of a contract may not be met). No revenue is
recognized until the issue of significant doubt is resolved.
E22.2 (LO1) (Change in Policy—Inventory Methods) Whitman SA began operations on January 1, 2016, and uses the average-
cost method of pricing inventory. Management is contemplating a change in inventory methods for 2019. The following information
is available for the years 2016–2018.
Net Income Computed Using
Average-Cost FIFO
Method Method
201
€16,000 €19,000
6
201
 18,000  21,000
7
201
 20,000  25,000
8
Instructions
(Ignore all tax effects.)
a. Prepare the journal entry necessary to record a change from the average-cost method to the FIFO method in 2019.
b. Determine net income to be reported for 2016, 2017, and 2018, after giving effect to the change in accounting policy.
EXERCISE 22.2 (10–15 minutes)

(a) Inventory 11,000*

Retained Earnings 11,000

*(€19,000 + €21,000 + €25,000) – (€16,000 + €18,000 + €20,000)

(b) Net Income (FIFO) 2016 €19,000

2017 21,000
2018 25,000
E22.10 (LO2) (Depreciation Changes) On January 1, 2015, McElroy plc purchased a building and equipment that have the
following useful lives, residual values, and costs.
Building, 40-year estimated useful life, £50,000 residual value,
£1,200,000 cost
Equipment, 12-year estimated useful life, £10,000 residual value,
£130,000 cost
The building has been depreciated under the double-declining-balance method through 2018. In 2019, the company decided to
switch to the straight-line method of depreciation. McElroy also decided to change the total useful life of the equipment to 9 years,
with a residual value of £5,000 at the end of that time. The equipment is depreciated using the straight-line method.
Instructions
a. Prepare the journal entry(ies) necessary to record the depreciation expense on the building in 2019.
b. Compute depreciation expense on the equipment for 2019.
EXERCISE 22.10 (20–25 minutes)
(a) Computation of depreciation for 2019:
Cost of building £1,200,000
Less: Depreciation prior to 2019
2015 (£1,200,000 – £ 0) X .05* £60,000
2016 (£1,200,000 – £ 60,000) X .05* 57,000
2017 (£1,200,000 – £117,000**) X .05* 54,150
2018 (£1,200,000 – £171,150***) X .05* 51,443 222,593
Book value, January 1, 2019 £ 977,407(a)

*(1 ÷ 40) X 2 **(£60,000 + £57,000) ***(£60,000 + £57,000 + £54,150)

Depreciation expense for 2019: £25,761(b) = [(£977,407(a) – £50,000) ÷ (40 – 4)]

Depreciation Expense 25,761(b)

Accumulated Depreciation—Building 25,761
(b) Computation of 2019 depreciation expense on the equipment:

Cost of equipment £130,000

Accumulated depreciation
[(£130,000 – £10,000) ÷ 12] X 4 years (40,000)
Book value, January 1, 2019 £ 90,000

2019 Depreciation expense: (90,000-5,000)/(9-4)= £17,000

E22.15 (LO3) (Error Correction Entries) The first audit of the books of Fenimore Company was made for the year ended
December 31, 2019. In examining the books, the auditor found that certain items had been overlooked or incorrectly handled in the
last 3 years. These items are:
1. At the beginning of 2017, the company purchased a machine for $510,000 (residual value of $51,000) that had a useful life of 5
years. The bookkeeper used straight-line depreciation but failed to deduct the residual value in computing the depreciation base for
the 3 years.
2. At the end of 2018, the company failed to accrue sales salaries of $45,000.
3. A tax lawsuit that involved the year 2017 was settled late in 2019. It was determined that the company owed an additional
$85,000 in taxes related to 2017. The company did not record a liability in 2017 or 2018 because the possibility of loss was
considered remote, and debited the $85,000 to a loss account in 2019 and credited Cash for the same amount.
4. Fenimore Company purchased a copyright from another company early in 2017 for $50,000. Fenimore had not amortized the
copyright because its value had not diminished. The copyright has a useful life at purchase of 20 years.
5. In 2019, the company wrote off $87,000 of inventory considered to be obsolete; this loss was charged directly to Retained
Earnings and credited to Inventory.
Instructions
Prepare the journal entries necessary in 2019 to correct the books, assuming that the books have not been closed. Disregard
effects of corrections on income tax.
EXERCISE 22.15 (15–20 minutes)
1. Accumulated Depreciation—Machinery 30,600
Depreciation Expense 10,200(a)
Retained Earnings 20,400(b)

2017–2018 2019
Depreciation taken $204,000* $102,000**
Depreciation (correct) * (183,600) (91,800)
*$ 20,400(b) $ 10,200(a)

*$510,000 X 1/5 = $102,000** per year X 2

2. Retained Earnings 45,000

Salaries and Wages Expense (sales) 45,000

3. No entry necessary.

4. Amortization Expense—Copyright 2,500(c)

Retained Earnings 5,000(d)
Copyright ($2,500 + $5,000) 7,500
($50,000 ÷ 20 = $2,500(c);
($2,500 X 2 = $5,000(d))

5. Loss on Write-down of Inventories

(or Cost of Goods Sold) 87,000
Retained Earnings 87,000