Int. Accounting Exam 3

Lessee

The company or person renting/using an asset.

Paying Retirement Benefits

Pension trust pays the retirees, both plan asset and PBO decreases

D Projected Benefit Obligation

C Pension Plan Asset

Pension Corridor Conceptual

Small actuarial gains/losses stay in AOCI; only amounts beyond the corridor trigger amortization.

Amortization is needed only when the beginning accumulated net gain or loss exceeds the corridor (10% of larger, PBO or Asset)

Unexpected Return on Plan Asset JE

Actual Return - Expected Return = Unexpected Gain/Loss

D Pension Plan Asset (Increases asset)

C OCI - Actuarial Gain (Increases income)

Service Cost (PBO)

PV of benefits earned during the current year, increases PBO resulting from one additional year of service from employees

D Service Cost (expense)

C PBO

Amending PBO for Prior Service Costs (conceptual)

PBO increases immediately; expense is recognized over future service periods.

1) D OCI Prior Service Cost, Credit PBO for full amount

2) Amortize cost D Pension Expense C OCI Prior Service Cost

Dilutive EPS > Basic EPS

Conversion increases EPS, meaning bonds are antidilutive and must be excluded (leave those bonds’ hypothetical conversion out of the final diluted EPS calculation, report basic EPS #)

After-Tax Interest Expense Avoided (Dilutive EPS)

“If-converted”, conversion will eliminate any after tax interest expense that would have been paid on the bonds, meaning increased earnings

APIC - Stock Options (Account Meaning)

Account holding the compensation value the company has recorded to reward to the employees in the future

Credit - increases benefits for employees

Debit - decreases account (expiration & forfeitures)

Forfeiture Stock Options JE

D APIC Stock Options

C Compensation Expense (reversing previously recorded compensation costs now that employee has forfeited options)

Guaranteed RV

Minimum asset terminal value guaranteed

Lessee must pay to fulfill obligation if expected is less than the guaranteed amount (Lease Liability = PV of pmts + PV of shortfall)

Unguaranteed RV

Lessor bears the residual value risk, there is no amount the lessee is promising to pay, only the periodic pmts are promised

RV affect on periodic lease payments

The returned equipment w/ RV is another source of recovery for the lessor, lowering required periodic payments

Lessor Total Initial Net Investment

= PV of payments received + PV of residual value

How much $ is expected to be received

Calculating Pension Corridor

Step 1) 10% of whichever is higher - Beginning PBO vs. Beginning Plan Asset

Step 2) Gain - Corridor = Excess Gain Exceeding Corridor

Step 3) Annual Amortization/Pension Exp = $Excess Gain / Time

Computing PBO Liability Ending Balance

Beg Balance + Service Cost + Interest on PBO + Assumption Losses - Assumption Gains - Benefits Paid to Retirees

Computing Plan Asset Ending Balance

Beg Balance + Contributions + Expected Gains - Unexpected Losses - Benefits Paid to Retirees

Plan Asset Ending Balance vs. PBO Ending Balance = OVER/UNDERFUNDED

Vested Options Expiration JE

D APIC - Stock Options

C APIC - Expired Stock Options

Residual Value (Operating Leases)

Expected commercial value of the leased asset when it is returned at the end of the lease term

RV can reduce periodic lease PMTs for lessee, No RV and PMTs must do all the work

Lessor

The company or person providing an asset for rent.

Calculating Total Investment (Operating Lease)

= PV of periodic PMTs + PV of Residual Value

Defined Contribution Expense JE

D Pension Expense (wages/salary * contribution %)

C Cash

Pension plan requiring contribution % from the company

Service Cost Financial Statement Effects

Increasing Operating Expense & Increasing Present Obligation - current expense affects NI

Amending DB plan resulting in service cost, amortized over years JE

D OCI - Prior Service Cost (full amount, decreases income)

C PBO Present Benefit Obligation (granting additional benefits for employees)

D Pension Expense (annual expense, $amount / amort. years)

C OCI - Prior Service Cost

PBO Interest Cost JE

Interest = (PV PBO + Service Cost) * Settlement Rate %

D Pension Expense

C PBO (increasing liability by interest)

Pension Expected Return JE

D Pension Plan Asset (asset * expected return %)

C Pension Expense - Expected Return (reverse expense, expense reduction)

Pension Actual Return JE

D/C Pension Plan Asset

D/C OCI - Gain/Loss (Credit Gain, Debit Loss)

Actuarial Assumptions Account

D/C OCI Actuarial Gain/Loss

Calculating Future Benefits DB Defined Benefits

= Benefits % * Salary * Years of Service

Grant Date (Stock Based Compensation)

Date when options are initially rewarded (not exercised), record compensation expense

Fair value of stock options is basis for recording

Vesting Period/Date (Stock Based Compensation)

Period - time employees must work for company before earning SB compensation, comp expense over period

Date - when employees can exercise options

Exercise Date (Stock Based Compensation)

Strike price, fixed amount paid per share

Expiration Date (Stock Based Compensation)

Last date option may be exercise

Calculating PV of Periodic PMTs (Operating Lease)

Step 1) Current PV - PV of residual value = Amount to recover, new PV

Step 2) Use new PV to calculate new PMTs

Income going to Net Income:

Net Income → Retained Earning (Equity) → impacts EPS

Closed to income summary, then flows to RE

Income going to OCI Other Comprehensive Income:

OCI → Accumulated OCI (equity) → No impact on EPS

Operating lease

“Rental Lease” that does not meet any of the finance-lease classification criteria.

Lease Liability Account

The PV of lease payments still needed to be paid, amount the lessee has not yet paid.

Pension

A retirement benefit employees earn by working for an employer.

Defined Contribution plan DC

A retirement plan in which the employer promises a contribution, not a specific retirement benefit. Plan promises contribution amount

Employee bears investment risk, benefits depend on performance

Defined Benefit plan DB

A retirement plan in which the employer promises an end benefit determined by a formula, often based on salary and years worked.

Employer bear risk/responsibility to fund promised benefits

Projected benefit obligation PBO

PV of pension benefits employees have earned so far

Pension plan assets

Investments held in the pension fund to pay retirement benefits

Funded status (Pensions)

Difference between the FV of plan assets and the PBO.

Overfunded pension plan

Plan whose assets exceed its PBO; the employer generally reports a net pension asset.

Assets > PBO

Underfunded pension plan

Plan whose PBO exceeds its assets; the employer generally reports a net pension liability.

Assets < PBO

Service cost

Value of additional pension benefits employees earn by working during the current year; increases PBO.

Actual return on plan assets

Fund’s actual investment gains or losses during the year.

Expected return on plan assets

The estimated investment return used in calculating pension expense; reduces pension expense.

Prior service cost

The cost of granting additional benefits for employees’ past service through a plan amendment.

Pension expense

The pension cost recognized in earnings for the period, not necessarily the cash contributed to the fund.

Basic EPS

Income available to common shareholders (NI - Preferred Dividends) divided by weighted-average common shares outstanding.

Weighted-average common shares

Common shares outstanding, adjusted for how long they were outstanding during the period.

Why subtract preferred dividends?

Those earnings belong to preferred shareholders, not common shareholders.

Stock option

Right to buy company shares at a specified exercise price.

Exercise price

The price the option holder must pay to buy a share.

Dilution

Reduction in EPS caused by including potential additional common shares.

Recording Operating Lease Lessee JE

D Right-of-use asset—operating lease

C Lease liability—operating lease

Operating Lease Expense Lessee JE

D Lease expense (Annual Straight Line Exp)

C Lease liability (Interest on Liability)

C Right-of-use asset—operating lease

Operating Lease Payment Lessee JE

D Lease liability

C Cash (Paying cash reduces lease liability account outstanding)

Defined Benefit DB Pension Expense JE

D Pension expense

C Net pension liability (Increasing net amount owed)

Record prior service cost from a plan amendment JE

D OCI—prior service cost

C Net pension liability (Increasing Liability)

Additional benefits to employees for past service, additional obligation is initially recognized through OCI other comprehensive income, rather than immediately as pension expense

Stock-option compensation expense JE

D Compensation expense

C APIC—stock options

Employees exercising stock options JE

D Cash (employee pays exercise price)

D APIC—stock options (previously recognized compensation exp) C Common stock (shares # * par value)

C APIC—common stock