Auditing Problems

Property, Plant and Equipment

Acquisition/Self-construction of PPE
1. Pogiboi INC. has constructed a production equipment needed for the company’s expansion
program. Pogiboi received a P1, 500,000 bid from a reputable manufacturer for the
construction of the equipment for the construction of the equipment.
The costs of direct material and direct labor incurred to construct the equipment were
P960, 000 and P600, 000, respectively. It is estimated that incremental overhead costs for
construction amount to 140% of direct costs.
Fixed costs (excluding interest) of P2, 100, 000 were incurred during the construction
period. This amount was allocated to construction on the basis of total prime costs – the sum
of direct labor and direct material. The prime costs incurred to construct the new equipment
amounted to 35% of the total prime costs incurred for the period. The company’s policy is to
capitalize all possible costs on self-construction projects.
To assist in financing the construction of the production equipment, Pogiboi borrowed
P1, 500, 000 at the beginning of the 6-month construction period. The loan was for 2 years
with interest at 10%.
1. What is the total cost of the self-constructed equipment?
A. P3, 210,000 C. P3, 021,000
B. P2, 610,000 D. P3, 285,000

2. The following transactions relate to IMPO COMPANY.

A. The national government grants the company a large tract of land to be used as a plant site.
The land’s fair value is determined to be P1, 620,000.
B. Impo Company issued 280,000 ordinary shares (par value, P50) in exchange for land and
building. The fair value of the property is determined to be P16, 200,000 with the following
allocation:
Land P3, 600,000
Building 12, 600,000
P16, 200,000
 Impo Company’s ordinary shares are not listed on the stock exchange, but its records
show that a block of 2,000 shares was sold by a shareholder a year at P70 per share, and
another block of 4,000 shares was sold by another shareholder 8 months ago at P63 per share.
C. Impo Company constructed machinery during the year. No entry was made to remove from
the accounts for materials, labor, and overhead the following costs that are properly chargeable
to the machinery account.
Raw Materials P250, 000
Factories supplies used 18,000
Direct labor costs incurred 320,000
Incremental overhead caused
Construction of machinery (excluding
Factory supplies used) 54,000
Fixed Overhead rate applied to
Regular manufacturing operations 60% of direct labor cost

The cost of similar machinery would be P880, 000 if it had been purchased from a
dealer.
The entries required to record these transactions should include debits to
Lands Buildings Machinery
A. P5, 500,000 P13, 720,000 P834, 000
B. P5, 975,556 P15, 244,444 P816, 000
C. P5, 757,778 P14, 482,222 P780, 000
D. P5, 220,000 P12, 600,000 P834, 000
3. Sagaih Company is a major supplier of computer parts and accessories. To improve delivery
services to customers, the company acquired four new trucks on July 1, 2018. Described below
are the terms of the acquisition for each truck.
Truck List Price Terms
No.1 P600, 000 Acquired for cash payment of P556, 000.
No. 2 P800, 000 Acquired for a down payment of P80, 000 cash and a 1-
year, non-interest-bearing note with a face amount
of P P720, 000. There was no establish cash price for
the e equipment. The prevailing interest rate for this
type of n note is 10%.
No. 3 P640, 000 Acquired in exchange for a computer package that the
company carries in inventory. The computer
package cost P480, 000 and is normally sold by Sagaih Co.
for P608, 000.
No.4 P560, 000 Acquired by issuing 40, 000 of Sagaih Co.’s ordinary
shares. The shares have a par value per share of
P10 and a market value per share of P13.
What is the total cost of the trucks purchased on July 1, 2018?
A. P2, 418,545 C. P2, 484,000
B. P2, 458,545 D. P2, 524,000

4. On March 11, 2018, Rambutan Company acquired the plant assets of Ina Corporation in
exchange for 25, 000 ordinary shares (P100 par value), which had a fair value of P180 on the
date of the purchase of the property. The property has the following appraised value:
Land P800, 000
Building P2, 400,000
Machinery and equipment P1, 600,000
Below is a summary of Rambutan’s cash outflows between the acquisition date and December
29, the date when it first occupied the building.
Repair to building P210, 000
Construction of bases for machinery
to be installed later 270, 000
Driveways and parking lots 244, 000
Remodeling of office space in building, including
new partitions and walls P322, 000
Special assessment by the city government
on land 36, 000

On December 27, Rambutan paid cash for machinery, P560, 000 (subject to 2% cash discount)
and freight on machinery of P21, 000.
Compute the total cost of each of the following:
A. Land
B. Buildings
C. Machinery and equipment

Solutions 1-4

1. Direct material P960, 000

Direct labor 600, 000
Variable overhead (P600, 000 x 140%) 840, 000
Fixed overhead (P2, 100, 000 x 35%) 735, 000
Interest on specific borrowing
(P1, 500, 000 x 10% x 6/12) 75, 000

Total cost of self-constructed equipment P3, 210, 100

Answer: A
2. JOURNAL ENTRIES
a. Land P1, 620,000
Deferred income – government grant P1, 620,000
b. Land 3, 600,000
Buildings 12, 600,000
Ordinary share capital 14,000,000
Share premium 2,200,000
c. Machinery 834,000
Raw materials 250,000
Direct labor 320,000
Factory overhead 264,000*

*applied overhead (P60%xP320, 000) P192, 000

Variable overhead 54,000
Factory supplies used 18,000
Total P264, 000
Answer: D

3. Truck no. 1 P556, 000

Truck no. 2
Down payment P80, 000
present value of note issued
(P720, 000x 0.90909) 654, 545 734,
545
Truck no. 3 608, 000
Truck no. 4 (P13 x 40, 000 shares) 520, 000
Total cost P2, 418, 545
Answer: A
4. A. Land
Acquisition cost P750, 000*
Special assessment by the city government 36, 000
Total cost P786, 000
B. Building
Acquisition cost P2, 200,000*
Repairs to building 210,000
Remodeling of office space in building 322,000
Total P2, 782,000
C. Machinery and equipment
Acquisition cost (March 11) P1, 500,000
Construction of bases for machinery 270,000
Acquisition cost (Dec. 27) (P1, 120,000 x 98%) 1, 097,600
Freight 42,000
Total cost P2, 909,600
* Acquisition cost of plant assets acquired on March 11
(P180/share fair value x 25, 000 shares issued) P4, 500,000

Allocation of total acquisition cost based on appraisal values:

Land (8/48 x P4, 500,000) P 750, 000
Building (24/48 x P4, 500,000) 2, 250,000
Machinery and equipment (16/48 x P4, 500,000) 1, 150,000
Total acquisition cost P4, 500,000
Correcting entries for PPE

5. Shabushabu Company acquired lands, buildings and equipment from a financially distressed
company, PDEA Corp., for a lump sum of P2, 800,000. On the acquisition date, PDEA’s assets
had the following book and fair values:
Book values Fair Values
Land P 800,000 P 600,000
Buildings 1,000,000 1,400,000
Machinery and equipment 1,200,000 1,200,000

Shabushabu decided to take a conservative position by recording the lower of the two values
for each PPE item acquired. The following entry was made:
Land 600,000
Buildings 1,000,000
Machinery and equipment 1,200,000
Cash 2,800,000

6. Sabog, Inc. purchased factory equipment by making a P200, 000 cash down payment and
signing a 3-year P300, 000, 10% note payable. The acquisition was recorded as follows
Factory equipment 530,000
Cash 200,000
Note payable 300,000
Interest payable 30,000

7. Rugbyboi Co. purchased store equipment for P800, 000, terms 2/10, n/30. The company
took the discount and mad the following entry when it paid for the acquisition:
Store equipment 800,000
Cash 784,000
Purchase discount 16,000
8. Sakitatay Corp. constructed a building at a total cost of P43, 000,000. The building could have
been purchased for P45, 000,000. The company’s controller made the following entry:
Building P45,000,000
Cash P43,000,000
Profit on construction 2,000,000

Solutions 5-8

Correcting Entries (on acquisition date)

5. Buildings 225,000
Land 75,000
Equipment 150,000

Fair Allocated Amount Adjustment

Value Cost* Recorded Dr(Cr)

Land P600,000 P525,000 P600,000 P(75,000)

Buildings 1,400,000 1,225,000 1,000,000 225,000

Equipment 1,200,000 1,050,000 2,800,000 (150,000)

Total P3,200,000 P2,800,000 P2,800, 000 P ---
The total acquisition cost price of assets acquired at the “lump sum price” or “basket price”
should be allocated to the assets on the basis of their relative fair value.
Land (P600,000/P3,200,000 x P2,800,000) P525,000
Buildings (P1,400,000/P3,200,000 x P2,800,000) 1,225,000
Equipment (P1,200,000/P3,200,000 x P2,800,000) 1,050,000
6. Interest payable 30,000
Factory Equipment 30,000
The interest on the note payable issued should be recognized as interest expense over the term
of the note.

7. Purchase discount 16,000

Store equipment 16,000
An item of PPE acquired on credit (or on account) should be recognized net of nay cash
discount, irrespective of whether the discount is taken or not.

8. Profit on construction 2,000,000

Buildings 2,000,000
The cost of a self-constructed asset is determined by applying the same principles as for an
acquired asset. Any internal profit is eliminated to arrive at the cost of the asset.
The “profit” recognized by the company is actually a saving on, construction that can be
realized through lower depreciation charges on the asset.

Acquisition of Equipment on a Deferred Payment Basis

Anglo-Saxon Company acquires a new manufacturing equipment on January 1, 2018, on

installment basis. The deferred payment contract provides for a down payment of P300,000
and an 8-year note for P3,104,160. The note is to be paid in 8 equal annual installment
payments of P388, 020, including 10% interest. The payments are to be made on December 31
of each year, beginning December 31, 2018. The equipment has a cash price equivalent of
P2,370,000. Anglo-Saxon’s financial year end is December 31.
9. What is the acquisition cost of the equipment?
A. P3,404,160 C. P2,370,000
B. P2,804,160 D. P3,104,160
10. The amount to be recognized on January 1, 2018, as discount on note payable is
A. P1,034,160 C. P827,160
B. P310,416 D. P0
11. The amount of interest expense to be recognized in 2018 is
A. P0 C. P310,416
B. P188,898 D. P207,000

12. The amount of interest expense to be recognized in 2019 is

A. P310,416 C. P207,000
B. P188,898 D. P0

13. The carrying value of the note payable at December 31, 2019 is.
A. P1,689,858 C. P1,312,062
B. P1,888,980 D. P1,700,082

Solutions 9-13

9. Acquisition cost of equipment

(cash price equivalent) P2,370,000
PAS 16 (Property, Plant and Equipment) states that the cost of an item of PPE is its cash price
equivalent. If payment is deferred beyond normal credit terms, the difference between the
cash price equivalent and the total payment is recognized as the interest expense over the
credit term unless such interest is capitalized in accordance with PAS 23.
Answer: C

10. Cost of equipment (cash price equivalent) P2,370,000

Less: Down payment ( 300,000)
amount assigned to note payable 2,070,000
Face value of the note
( 3,104,160) Discount on note payable, January 1, 2018
P1,034,160
The entry to record the acquisition is:
 Equipment P2,370,000
Discount on note payable P1,034,160
Note payable P3,104,160
Cash
300,000
Answer: A

11. Interest expense for 2018:

Carrying value of note payable, Jan. 1, 2018
(P3,104,160 – P1,034,160) P2,070,000
Interest rate x 10%
Discount amortization for 2018 P 207,000
The entry to record the discount amortization is:
Interest expense 207,000
Discount on note payable 207,000
Answer: D

12. Interest expense for 2019:

Note payable, Jan. 1, 2018 P3,104,160
Less: Payment made on Dec. 31, 2018 388,020
Note payable, Dec. 31, 2018 2,716,140
Discount on note payable, Dec. 31, 2018
(P1,034,160-P207,000) ( 827,160)
Carrying value of note, Dec. 31, 2018 1,888,980
Interest rate x 10%
Discount amortization (Interest expense) for 2019 P 188,898

Answer: B
13. Carrying value of note, Dec. 31, 2018 P1,888,980
Discount amortization (Interest expense) for 2019 188,898
Payment made on Dec. 31, 2019 ( 388,020)
Carrying Value of note, Dec. 31, 2019 P1,689,858

Answer: A

Purchased and Self-constructed Equipment

Various equipment used by Lockheed Co. in its operations are either purchased from dealers or
self-constructed. The following items for two different types of equipment were recorded
during the calendar year 2018.
Manufacturing equipment (self-constructed):
Materials and purchased parts at gross invoice price
(Lockheed failed to take 2% cash discount) P450,000
Imputed interest on funds used during construction
(stock finding) 36,000
Labor costs 185,000
Overhead costs (fixed—P40,000; variable—P60,000) 100,000
Gain on self-construction 74,000
Installation cost 8,600

Store equipment (purchased):

Cash paid for equipment P175,000
Freight and insurance cost while in transit 3,500
Cost of moving equipment into place at store 1,200
Wage cost for technicians to test equipment 7,000
Insurance premium paid during first year
of operation on this equipment 5,200
 Special plumbing fixtures required for this equipment 8,200
Repair cost incurred in first year of operations
related to this equipment 1,450
14. What is the total cost of the self-constructed equipment?
A. P674,600 C. P734,600
B. P770,600 D. P743,600

15. What is the total cost of the store equipment purchased?

A. P200,100 C. P191,400
B. P193,700 D. P194,900

Solutions 14-15

14. Manufacturing equipment (self-constructed):

Materials and parts (P450,000 x 98%) P441,000
Labor costs 185,000
Overhead costs 100,000
Installation cost 8,600
Total cost P734,600

 The cost of purchased materials and parts is net of the 2% cash discount because the
equipment should be recorded at its cash price equivalent.
 The imputed interest on stock financing should not be recognized, i.e., neither
capitalized nor expense.
 The gain on self-construction should not be reported. Gain should only be recognized
when the asset is sold.
Answer: C

15. Store equipment (purchased):

Cash paid for equipment P175,000
Freight and insurance cost while in transit 3,500
Cost of moving equipment into place at store 1,200
Wage cost for technicians to test equipment 7,000
Special plumbing fixtures required for this equipment 8,200
Total cost P194,900

Answer: D

Acquisition of PPE Items

The following information relates to Tito Badang Company

A. On July 1, Tito Badang purchased the plant assets of Balatbat Co., which had discontinued
operations. The following are the fair values of the plant assets acquired:
Land P10,500,000
Building 31,500,000
Machinery and equipment 21,600,000
Total P63,000,000
Tito Badang Company issued 550,000 shares of its P100 par value ordinary share capital in
exchange for the above plant assets. On the acquisition date, the stock had a fair value of P160
per share.
B. Tito Badang expended the following amounts in cash between July 1 and December 20, the
date when the company first occupied the building:
Special assessment by city on land P 540,000
Repairs to building 3,150,000
Construction of bases for machinery
and equipment acquired 4,050,000
Driveways and parking lots 3,660,000
Remodeling of office space in building,
including new partitions and walls 4,830,000
C. On December 23, Tito Badang paid cash for machinery, P7,800,000, subject to 2% cash
discount, and freight on machinery of P315,000.
Based on the preceding information, calculate the cost of the following PPE items:

16. Land
A. P10,540,000 C. P14,200,000
B. P14,700,000 D. P11,040,000

17. Buildings
A. P39,480,000 C. P31,500,000
B. P37,980,000 D. P30,000,000
18. Machinery and equipment
A. P32,009,000 C. P33,009,000
B. P28,959,000 D. P21,000,000
19. Land improvements
A. P4,200,000 C. P540,000
B. P3,660,000 D. P0
20. The entry to record the purchase of Balatbat’s plant assets should a:
A. Debit to land of P22,666,667
B. Credit to Share Premium of P8,000,000
C. Credit to Ordinary Share Capital of P63,000,000
D. Debit to Machinery and Equipment of P29,333,333

Solution 16-20

P in thousands
Lands Buildings Machinery Land
and Equipment
improvements
Acquisition cost of properties
acquired on July 1 P10,500 P31,500 P21,000
P__________
Special assessment by
city on land 540
Repairs to building 3,150
Construction of bases for
machinery and
equipment acquired 4,050
Driveways and parking lots 3,660
Remodeling of office space 4,830

Acquisition price of
machinery Acquired
on Dec. 23, net of 2%
cash discount (P7.8Mx98%) 7,644
Freight on machinery ________ _________ 315 ________
Totals P11,040 P39,480 P33,009 P3,660

16. Land P11,040,000 Answer: D

17. Buildings P39,480,000 Answer: A
18. Machinery and equipment P33,009,000 Answer: C
19. Land Improvements P3,660,000 Answer: B

20. Total fair value of plant assets acquired P63,000,000

Less: Par value of ordinary shares
(P100 x 550,000) ( 55,000,000)
Share Premium P 8,000,000
The entry to record the acquisition on July 1 is:
 Land 10,500,000
Building 31,500,000
Machinery and equipment 21,000,000
Ordinary shares
55,000,000 Share premium
8,000,000
Answer: B