Question

Company inc. is preparing its financial statements. The company's accountant calculated Income from Continuing Operations to be $500,000, but is not certain this number is accurate. Please review the following three scenarios and determine the appropriate adjustment to Income from Continuing Operations, if any, that is required for each item. All amounts listed are pre-tax unless otherwise noted. Corporate income tax rate is 30%.

Scenario A:
The Company has an unrealized loss on a Hedging Transaction of $10,000 (pre-tax). The loss was included in determining the $500,000 Income from Continuing Operations.

1. Should this be included in ICO?

2. If yes, under which section of the Income Statement would this loss be found?

3. If no, what amount should be reversed from ICO?

Scenario B:
The Company purchased a truck for $50,000 on January 1, 2016. The truck had an estimated salvage value of $5,000 and an estimated useful life of 10 years. The company uses the straight-line depreciation method. On January 1, 2019, they revised the estimated salvage value to $10,000, but did not change the useful life. The accountant recorded depreciation expense using the old salvage value when calculating the $500,000 ICO.

1. Is an adjustment needed to the Income for Continuing Operations for 2019?

2. If yes, what type of adjustment?

3. If yes, what is that amount of the adjustment needed?

Scenario C:
On March 1, 2019, company x discovered that R&D costs of $150,000 for 2017 were capitalized as a part of the Historical Cost of the Patent, instead of being expensed. Income from Continuing Operations for 2019 includes the current year's R&D costs of $125,000 as an expense.

1. What type of scenario is addressed?

2. What adjustment (if any) is needed to ICO for 2019?

3. Does the company need to restate its 2017 financial statements?

Answer 1

Income from continuing operations includes revenue earned by an entity from sales, expenses incurred by an entity, profit, and loss that carryforward in the future.

A scenario

1) A loss of $10,000 arises from the hedging transactions is included in the $500,000(income from the continuing operation is valid as this loss is related to the future of the company.

2) Hedging transactions loss of $10,000 is covered under gains and loss of derivatives under the accrued income in the income statement of the company. Accrued income refers to income that is not received by an entity in a year.

3) In case of No, ($10,000*1.30= $13000) $13000 amount of loss reversed from the income of operation as the loss amount is pre-tax so 30% tax amount is also revered from the total income of $500,000.

B Scenario

1) Yes, adjustment is needed in 2019 for balancing out the amount of the depreciation charged in the year as salvage value is considered as an integral element for determining the depreciation.

Depreciation= ($50,000-$5000)/10= $4500 old

= ($50000-$10000)/10= $4000 new

The difference of $500 is adjusted with the adjusted journal entry

2) Yes, the depreciation expense is needed for the increase of the salvage value

3) The adjustment entry for balancing the increase of salvage value by increasing the depreciation expense

Depreciation expense a/c $500

To Accumulated depreciation $500

(Being $500 depreciation adjusted in 2019)