CHAPTER 20
CORPORATIONS IN FINANCIAL DIFFICULTY
ANSWERS TO QUESTIONS
Q20-1
The nonjudicial actions available to a financially distressed company are
debt restructuring arrangements, creditor's committee management, and voluntary
asset assignment. The judicial actions available are corporate liquidation
(Chapter 7) and corporate reorganization (Chapter 11).
Q20-2
The major difference between a Chapter 7 action and a Chapter 11 action
is that the debtor continues as a business after a Chapter 11 reorganization
whereas the business does not survive a Chapter 7 liquidation.
Q20-3
Under two circumstances an involuntary petition for relief may be filed.
The first circumstance is that the debtor is generally not paying debts as they
become due. The second circumstance is that within the last 120 days a custodian
has been appointed by other creditors, by the debtor, or by some other agency to
take possession of the debtor's assets. If more than 12 creditors exist, then
three or more creditors must combine to file the petition. These three or more
creditors must have aggregate unsecured claims of at least $5,000.
Q20-4
A troubled debt restructuring is a concession granted by a creditor to a
debtor in financial difficulties, not because of changes in the competitive
general economic environment. All debt restructurings are not accounted for in
the same manner. For example, the creditor may reduce the current interest rate,
forgive some of the accrued interest or principal, or modify some other term of
the debt agreement. Alternatively, the creditor may accept assets or other
equity in return for extinguishment of the debt. In each circumstance, the
accounting treatment may differ.
Q20-5
For the debtor to determine if a gain from debt restructure is reported,
the carrying value of the debt must be compared to the total future cash flows
(aggregate of all future values of cash payments after the restructuring). If
the carrying value is less than or equal to the total future cash flows, no gain
is reported; however, an amount of interest is reported in a future year. If the
carrying value is greater than the total future cash flows, a gain is reported
for the amount that the future cash flow exceeds the carrying amount, and no
interest expense is recognized. For the creditor, the carrying value of the debt
is compared to the present value of the estimated total future cash flows. If
the present value is less than the carrying amount, the loan is impaired and a
loss (bad debts expense or allowance for uncollectibles) is charged and a
valuation allowance account is credited.
McGraw-Hill/Irwin
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Q20-6
The first step involved with accounting for the transfer of noncash
assets in settlement of debt is the revaluation of the assets to their market
values before determining the restructuring difference. The gain or loss on
revaluation is shown in the debtor's income statement as an operating item. The
second step involved is the determination of the restructuring difference, which
is the carrying value of the debt less the fair value of the assets transferred.
If the restructuring difference is positive, a gain or loss is reported on
restructuring. If the restructuring difference is zero or negative, no gain or
loss is reported on restructuring.
Q20-7
The gain from a troubled debt restructuring is reported in the debtor's
financial statements as an extraordinary item if material. A loss is reported in
the creditor's financial statements as a charge to its allowance for
uncollectible accounts, or, if an inadequate allowance exists, as an increase in
bad debts expense.
Q20-8
A gain will be shown by a debtor in a modification of terms of the debt
agreement if the carrying value of the debt is greater than the total future
cash flows under the modified terms of the agreement.
Q20-9
After a modification of terms in which the carrying value of the debt is
less than the modified total future cash flows, the amount of interest expense
is computed by the debtor by first determining the actual interest rate for the
restructured debt (determined from the present value factor equating the
restructured debt and the total future cash flows) and multiplying the interest
rate by the balance of the restructured debt.
Q20-10 The following items are usually included in the Plan of Reorganization
filed as part of a Chapter 11 reorganization:
a.
All major actions to be taken during the reorganization
(1) Discontinuances of unprofitable operations
(2) Restructuring of debt with specific creditors
(3) Revaluation of assets and liabilities
(4) Changes in the par value of outstanding stock, or realignment
stockholders' equity with newly issued shares of voting common stock.
b. The alternative of liquidating
receipts to the creditors
the
debtor
and
distributing
the
of
expected
FASB 15 does not apply in cases of Chapter 11 reorganization in which most of
the debtor's indebtedness is restructured. The FASB felt that the fresh start
view of a reorganization should guide the accounting for Chapter 11
reorganizations. However, if the debt restructuring associated with a Chapter 11
reorganization is just for a small part of the debtor's payables, then FASB 15
is applicable.
McGraw-Hill/Irwin
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Q20-11 The account Reorganization Value in Excess of the Amount Assigned to
Identifiable Assets is established during a Chapter 11 fresh start accounting to
record the excess of the reorganization value that is not assigned to specific
assets. The account is an intangible asset and is amortized according to APB 17.
Q20-12 A company in Chapter 11 reorganization qualifies for fresh start
accounting if both of the following occur:
1.
The reorganization value of the entity's assets of the emerging entity
immediately before the date of confirmation is less than the total of all
post-petition liabilities and allowed claims; and
2.
Holders of existing voting shares immediately before confirmation receive
less than 50% of the voting shares of the emerging entity.
Companies using fresh start accounting revalue their assets to fair values,
using the procedures in APB 16. A reorganization value in excess is used to
record any excess in reorganization value not assigned to specific assets.
Q20-13 The financial statements that must be filed by a company during a Chapter
11 reorganization include a complete set of audited financial statements. SOP
90-7 established specific guidelines for these statements, noting that amounts
associated with reorganization should be reported separately.
Q20-14 The rights of creditors with priority in a Chapter 7 liquidation are to
receive any assets available to unsecured creditors after the secured creditors
have been satisfied.
Q20-15 The statement of affairs is the basic accounting report made at the
beginning of the liquidation process to present the expected realizable amounts
from disposal of the assets, the order of creditors' claims, and the expected
amount unsecured creditors will receive as a result of the liquidation. In
addition, the statement of affairs presents the book values of the debtor
company's balance sheet accounts and the estimated deficiency to the general
unsecured creditors. As a final point, the statement of affairs is not a going
concern report.
Q20-16* A trustee who takes title to the debtor's assets in a liquidation must
make a periodic financial report to the bankruptcy court reporting on the
progress of the liquidation and on the fiduciary relationship held.
When the
trustee accepts the assets, a new set of books is opened for the debtor and a
new account is created to recognize the debtor's interest in the net assets
accepted by the trustee. A statement of realization and liquidation is prepared
on a monthly basis for the bankruptcy court showing the results of the trustee's
fiduciary actions beginning at the point the trustee accepts the debtor's
assets.
Q20-17* Sales of assets are reported in the statement of realization
liquidation as assets realized in the assets section of the statement.
and
McGraw-Hill/Irwin
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SOLUTIONS TO CASES
C20-1
1.
Restructuring of Debt
In a transfer of land which is part of a troubled debt settlement agreement,
the gain or loss is computed as the difference between the fair value of the
land and the carrying value of the debt at the time of the settlement. For
example, if Elec-Tric decides to settle its debt with a transfer of the
land, the entry on Elec-Tric's books to record the troubled debt settlement
would be a two-step process. First, the land would be revalued to its fair
value and then the restructuring gain would be recorded on the settlement of
the debt, as follows:
Land
70,000
Gain on Disposal of Land
Payable to Creditor
Land
Gain on Restructure of Debt
70,000
100,000
90,000
10,000
The two entries could easily be joined into one compound entry.
Elec-Tric's income statement would include a total gain of $80,000 ($70,000
+ $10,000) in the period of settlement.
2.
If Elec-Tric settled the debt with a transfer of $70,000 cash, the following
entry would be made:
Payable to Creditor
Cash
Gain on Restructure of Debt
100,000
70,000
30,000
The controller favors the method that would report the greatest amount of
gain in the period's income statement. The president of the company prefers
to settle the debt at a cost of $70,000 and keep the land which could
generate $90,000 in cash flow.
McGraw-Hill/Irwin
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C20-2
Creditors' Alternatives
The options to the creditors are (1) form a creditors' committee, (2) a Chapter
11 reorganization, and (3) a Chapter 7 liquidation. The eventual decision must
rest upon the creditors' assessment of the viability of the rehabilitation of
the debtor versus the liquidation values of the debtor's assets.
Most creditors do not want to see the liquidation of a debtor because, as
creditors, they are in the business of loaning monies, not trying to manage a
business or attempting to obtain as much of a liquidation dividend as possible
in a liquidation. Most creditors will work with the debtor's management as long
as possible. Secured creditors have greater protection of their receivables than
do unsecured creditors. However, even most secured creditors prefer to see a
debtor company be rehabilitated after a time of financial difficulty rather than
see the debtor liquidated. The timing of the cash flows is somewhat dependent on
the amount of reduction in debt the creditors are willing to absorb. If the
creditors are willing to work with the debtor, the creditors may eventually
realize a greater percentage of their debt, but it usually takes a longer time
to receive the payments from the debtor.
The creditors' committee is a nonjudicial action which provides for flexibility
to both the creditors and the debtor. The creditors' committee typically works
with the debtor company to enact a plan of settlement of the debtor's
indebtedness. In some cases, the creditors may assume management control of the
company, but most creditors are reluctant to do this because of the added risk
of legal action if the company does enter bankruptcy. Creditors may eventually
receive a substantial part, or possibly all, of their receivables as the debtor
is able to "work down" its debt over time.
Chapter 11 reorganization offers the creditors a chance to continue having a
customer once it solves its immediate financial problems. A reorganization is an
acceptable option if the creditors feel the company would have the basic
operating and financial foundations after the reorganization to become a going
concern. Creditors often accept reduced amounts as settlements of their
receivables, or will modify the terms of existing debt as part of the
reorganization agreement.
Chapter 7 liquidations are the final step. The creditors must go through the
judicial process which may take a long time to complete. Liquidation should be
used only if no other alternative is viable. Creditors often receive a smaller
portion of their receivables because of the forced liquidation of the assets and
the extensive legal and administrative costs involved in a liquidation.
McGraw-Hill/Irwin
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C20-3
Research Related to Bankruptcy
a) & b) & c)
Internet URL:
http://www.abiworld.org/
The above Internet address provides access to the ABI homepage. From the
homepage, the user is able to obtain the information necessary for parts a), b),
c) of the case. Information is obtained through the homepage as follows:
Part a)
Part b)
Part c)
Select “About ABI.” (The “About ABI” information is at
Internet URL: http://www.abiworld.org/aboutabi.html).
Select “Bankruptcy Headlines.” (The “Bankruptcy
Headlines” information is at Internet URL:
http://www.abiworld.org/headlines/todayshead.html).
Select “Statistics” (The “Statistics” information is
at Internet URL:
http://www.abiworld.org/stats/newstatsfront.html).
About the ABI –
The American Bankruptcy Institute (ABI or the Institute) was founded in 1982.
The ABI is dedicated to research and education on matters related to insolvency.
Its purpose is to provide Congress and the public with unbiased analysis of
bankruptcy issues. The organization is the largest multi-disciplinary, nonpartisan organization dedicated to such research. The ABI’s Membership is
greater than 7,000 individuals, including lawyers, accountants, bankers, judges,
professors, turnaround specialists and other bankruptcy professionals. The
multi-disciplinary group is able to exchange ideas and information. While the
Institute does not advocate policy positions or lobby Congress for legislation,
it does provide a unique perspective. Policymakers have long relied on the
expertise of ABI in the evaluation of bankruptcy law.
The Institute is involved with many educational and research activities.
In
addition, they produce several publications both for the insolvency practitioner
and the public. ABI is a leading provider of quality bankruptcy educational
programs. ABI's conferences are highly rated for their thorough discussions of
the latest developments. Consistent with their success in education and
research, ABI is at the forefront in using new technology. The Institute has
taken advantage of the growth in the access to the World Wide Web (WWW). Their
WWW site is designed to provide information on insolvency including current
bankruptcy information.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
C20-3
(continued)
Current Bankruptcy Headlines—
The ABI updates their headlines very frequently.
The headline selections
include recent changes in bankruptcy laws, developments at commercial banks,
opinions from political leaders, and a range of other matters of interest to the
professional communities that follow bankruptcy laws and statistics. The
headlines also include insightful stories of companies that have recently
entered bankruptcy.
Bankruptcy Statistics—
Bankruptcy statistics are updated each quarter.
Total filings are presented
which are then broken down by type of filing (personal or business, and then by
Section of the bankruptcy law.
The vast majority of filings are nonbusiness
(individuals) and most of these are Chapter 13 filings.
Because these
statistics change each quarter, they will not be presented here.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
SOLUTIONS TO EXERCISES
E20-1
Multiple-Choice Questions on Debt Restructuring [AICPA Adapted]
1.
b
$400,000
(350,000)
$ 50,000
2.
b
Carrying
Value
$600,000
60,000
$150,000 = $660,000
Total Future
Cash Flows
$400,000
110,000
- $510,000
3.
a
4.
d
Carrying
Value
$500,000
60,000
$110,000 = $560,000
Fair Value
of Asset
-
$450,000
$ 90,000 = $450,000 fair value - $360,000 book value
E20-2
Impairment Entries by Debtor and Creditor
Entries by Tristar Bank, the creditor:
January 2, 20X7
Determine carrying value of the loan:
Note principal
Determine PV of future cash flows until maturity:
PV of principal amount: $250,000 @ 8%
for 2 years ($250,000 x .85734)
$214,335
PV of interest annuity: $32,000 @ 8%
for 2 years ($32,000 x 1.78326)
57,064
PV of total future cash flows
Loss (expense) due to impairment
Bad Debt Expenses (or Allow. for Uncoll.)
Valuation Allowance for Impaired Loans
128,601
Impaired Notes Receivable
Notes Receivable
400,000
December 31, 20X7
Cash
Interest Revenue ($271,399 x .08)
Valuation Allowance for Impaired Loans
$400,000
271,399
$128,601
128,601
400,000
32,000
21,712
10,288
McGraw-Hill/Irwin
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E20-2
(continued)
December 31, 20X8
Cash
Interest Revenue ($261,111* x .08)
Valuation Allowance for Impaired Loans
32,000
20,889
11,111
* $271,399 1/2/X7 PV of note
- 10,288 amortization of loss in 20X7
$261,111 1/1/X8 PV of note
December 31, 20X8
Cash
Valuation Allowance for Impaired Loans
Impaired Notes Receivable
* Loan impairment 1/2/X7
Loan impairment 12/31/X7
Loan impairment 12/31/X8
250,000
150,000*
400,000
$128,601
10,288
11,111
$150,000
NOT REQUIRED: If $400,000 is received on 12/31/X8, the entry is prepared as if a
change in estimate has occurred.
Cash
Valuation Allowance for Impaired Loans
Bad Debt Expense
Impaired Note Receivable
Interest Revenue (or Bad Debt Expense)
400,000
150,000
128,601
400,000
21,399
Entries by Johnson Corporation, the debtor:
January 2, 20X7
No entry
December 31, 20X7 and December 31, 20X8
Interest Expense
Cash
December 31, 20X8
(maturity date of note, paid $250,000)
Notes Payable
Gain on Extinguishment of Debt
(extraordinary)
Cash
32,000
32,000
400,000
150,000
250,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
E20-3
Settlement of a Debt: Debtor's and Creditor's Entries
Debtor's (Thom) books:
TWO-STEP PROCESS:
(1)
FMV, equipment
$35,000
BV, equipment
(30,000)
Ordinary gain
$ 5,000
(2)
Carrying value of debt
FMV of equipment
Ext. gain, before tax
Tax (35%)
Extraordinary gain, net
Equipment
Gain on Disposal of Equipment
Notes Payable
Equipment
Taxes Payable
Gain on Debt Settlement (extraordinary)
$80,000
(35,000)
$45,000
(15,750)
$29,250
5,000
5,000
80,000
35,000
15,750
29,250
Note: The two entries above can be combined into one entry.
Creditor's (Linco) books:
Allowance for Uncollectibles*
Equipment
Notes Receivable
45,000
35,000
80,000
*Bad Debt Expense would be charged if the creditor did not
previously establish a provision for uncollectibles.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
E20-4
Creditor's Entries for a Modification of Terms [AICPA Adapted]
Entries by Clark Company, the creditor:
December 31, 20X2, date of restructuring:
Determine carrying value of the note:
Principal
$ 90,000
Accrued interest
9,000
CV of note receivable
Determine PV of future cash flows until maturity:
PV of principal amount: $50,000 @ 10%
for 2 years ($50,000 x .82645)
$ 41,323
PV of interest annuity: $2,500 @ 10%
for 2 years ($2,500 x 1.73554)
4,339
PV of TFCF
Creditor's loss (expense) on restructuring
$ 99,000
(45,662)
$ 53,338
[Note: Use the original effective interest rate of 10% to discount the total
future cash flows of the restructured debt and to recognize interest revenue
for the term of the restructured debt.]
December 31, 20X2
Bad Debt Expense (or Allow. for Uncoll.)
Accrued Interest Receivable
Notes Receivable
Valuation Allowance for Impaired Loans
$50,000 Post-restructured
maturity value of note
(45,662) PV of total future
cash flows on note
$ 4,338 Valuation allowance balance
December 31, 20X3
Cash ($50,000 x .05 interest rate)
Valuation Allowance for Impaired Loans
Interest Revenue ($45,662 x .10)
Recognize effective interest revenue.
December 31, 20X4
Cash
Valuation Allowance for Impaired Loans
Interest Revenue ($47,728 x .10)
Recognize interest revenue and close
balance in valuation allowance account:
$45,662 12/31/X2 PV of note
2,066 Reduction of valuation
allowance in 20X3
$47,728 1/1/X4 PV of note (rounded)
Cash
Notes Receivable
Collect restructured note principal.
53,338
9,000
40,000
4,338
2,500
2,066
4,566
2,500
2,272
4,772
50,000
50,000
McGraw-Hill/Irwin
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E20-5
1.
c
2.
d
3.
c
4.
d
5.
Multiple-Choice Questions on Chapter 11 Reorganizations
[AICPA Adapted]
c
McGraw-Hill/Irwin
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McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
E20-6
a.
Recovery Analysis for a Chapter 11 Reorganization
Recovery analysis for plan of reorganization:
Taylor Companies, Inc.
Plan of Reorganization
Recovery Analysis
December 31, 20X1
Recovery
Elimination
of Debt
Surviving
and Equity
Debt
Post-petition liabilities
(30,000)
Claims/Interest:
Accounts Payable
(80,000)
8,000
Notes Payable, 10%
Related Interest Payable
(150,000)
(16,000)
25,000
16,000
Bonds Payable, 12%
Related Interest Payable
(200,000)
(24,000)
18,000
Total
(470,000)
67,000
Common shareholders:
Common Stock
Additional Paid-In
Retained Earnings
Deficit
Total
Reduction
of Taylor's
Assets
(622,000)
Total
$
(30,000)
Recovery
%
(30,000)
100%
(72,000)
(72,000)
90
(125,000)
(125,000)
-0-
83
0
(200,000)
(6,000)
100
25
(200,000)
(6,000)
(100,000) (100,000)
(200,000) 171,000
178,000
$2 par value
Common Stock
%
Value
100%
(200,000)
(29,000)
(200,000)
(29,000)
100%
(229,000)
(662,000)
(178,000)
(40,000)
(230,000)
(203,000)
McGraw-Hill/Irwin
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McGraw-Hill/Irwin
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E20-6 (continued)
b.
Journal entries to record reorganization:
(1)
(2)
E20-7
Accounts Payable
Notes Payable, 10%
Interest Payable
Cash
Accounts Receivable (net)
Land
Gain on Disposal of Land
Gain on Discharge of Debt
Record discharge of debt.
80,000
150,000
40,000
Common Stock ($1 par)
Additional Paid-In Capital
Gain on Disposal of Land
Gain on Discharge of Debt
Common Stock ($2 par)
Retained Earnings
Record change in par value of stock
and elimination of deficit.
100,000
171,000
40,000
67,000
6,000
72,000
85,000
40,000
67,000
200,000
178,000
Multiple-Choice Questions on Chapter 7 Liquidations
1.
c
2.
a
3.
d
4.
a
5.
c
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
E20-8
a.
Chapter 7 Liquidation
Schedule to calculate amount available for general unsecured creditors:
Total estimated fair values
Claims of secured creditors:
Notes payable and interest
(Receivables and Inventory)
Bonds payable and interest
(Land and Building)
$471,000
$115,000
231,000
Claims of creditors with priority:
Wages payable
Taxes payable
Available to general unsecured creditors
b.
Accounts payable
Notes payable and interest
Less: Secured by receivables and
inventory
Total unsecured claims
Estimated dividend:
c.
Group
Accounts Payable
Wages Payable
Taxes Payable
Notes Payable
and Interest
Bonds Payable
and Interest
$
9,500
14,000
(23,500)
$101,500
$ 95,000
$195,000
(115,000)
$101,500
$175,000
80,000
$175,000
= 58%
Credit
Percentage
$ 95,000
9,500
14,000
80,000
115,000
58%
100
100
58
100
231,000
(346,000)
$125,000
100
Distributed
$ 55,100
9,500
14,000
46,400
115,000
231,000
$471,000
McGraw-Hill/Irwin
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E20-9
Chapter 7 Liquidation
a.
Royal Company
Statement of Affairs
May 31, 20X1
Assets
Estimated
Current
Values
Book
Value
Estimated
Amount
Available
to
Unsecured
Claims
Estimated
Gain
(Loss) on
Realization
(1) Assets pledged with fully
secured creditors:
$ 65,000
340,000
Accounts Receivable (net)
Less: Note Payable
$ 52,000
(40,000)
$ 12,000
$ (13,000)
Equipment (net)
Less: Note Payable
$180,000
(150,000)
30,000
(160,000)
(2) Assets pledged with
partially secured creditors:
75,000
190,000
Inventory
Notes Payable
$ 40,000
(80,000)
(35,000)
Land and Buildings (net)
Bonds Payable
$120,000
(200,000)
(70,000)
(3) Free assets:
14,700
Cash
Estimated amount available
Less: Creditors with priority
Net Available to unsecured
creditors
Estimated deficiency
14,700
$ 56,700
(24,000)
$ 32,700
192,300
$684,700
$(278,000)
Total unsecured claims
$225,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
E20-9
(continued)
Equities
Estimated
Amount
Unsecured
Book
Value
(1) Fully secured creditors:
$190,000
Notes payable
$190,000
(2) Partially secured creditors:
80,000
200,000
Notes payable
Less: Inventory
$ 80,000
(40,000)
$ 40,000
Bonds payable
Less: Land and building
$200,000
(120,000)
80,000
(3) Creditors with priority:
24,000
Wages payable
$ 24,000
(4) Unsecured creditors:
105,000
Accounts payable
105,000
(5) Stockholders' equity:
160,000
(74,300)
$684,700
b.
Common stock
Retained earnings (deficit)
Dividend to unsecured creditors:
$225,000
$ 32,700 = 14.53%
$225,000
McGraw-Hill/Irwin
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E20-10*
Statement of Realization and Liquidation
Pace Corporation
Statement of Realization and Liquidation
Assets
Assets to be Realized
Old Receivables, net
Marketable Securities
Old Inventory
Depreciable Assets, net
Assets Realized
$38,000
12,000
60,000
96,000
Old Receivables
New Receivables
Marketable Securities
Sales of Inventory
Assets Acquired
New Receivables
$21,000
47,000
10,500
75,000
Assets Not Realized
75,000
Old Receivables, net
New Receivables, net
Depreciable Assets
17,000
28,000
80,000
Supplementary Items
Supplementary Charges
Trustee's Fee
Supplementary Credits
4,300
Net Loss
6,800
Liabilities
Liabilities Liquidated
Old Current Payables
Liabilities to be Liquidated
22,000
Liabilities Not Liquidated
Old Current Payables
Old Current Payables
48,000
Liabilities Incurred
26,000
$333,300
$333,300
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
SOLUTIONS TO PROBLEMS
P20-11
a.
Debt Restructuring
Journal entries on books of debtor company:
Carrying value of debt:
Note payable
$80,000
Interest payable
6,400
Fair value of computer equipment
Remainder of debt
Estimated future cash flow:
Note payable
Interest ($40,000 x .06 x 2)
Restructuring difference (gain)
$40,000
4,800
$86,400
(37,000)
$49,400
(44,800)
$ 4,600
Note: The book value of the computer equipment is $32,000 and its fair value
is $37,000, resulting in a $5,000 gain on disposal.
Modification of terms:
Accrued Interest Payable
6,400
Notes Payable (8%)
80,000
Accumulated Depreciation
18,000
Computer Equipment
Restructured Debt Payable (6%)
Gain on Restructuring of Debt
Gain on Disposal of Computer Equipment
Each interest payment:
Restructured Debt Payable (6%)
Cash
50,000
44,800
4,600
5,000
2,400
2,400
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
b.
Debtor's journal entries for settlement of debt with stock:
Carrying value of debt:
Note payable
$80,000
Interest payable
6,400
$86,400
Fair value of stock
(50,000)
Remainder of debt
$36,400
Estimated future cash flow:
Note principal
$40,000
Interest ($40,000 x .06 x 2)
4,800
(44,800)
Restructuring difference (no gain)
$(8,400)
(1)
Accrued Interest Payable
Notes Payable (8%)
Restructured Debt Payable (6%)
Common Stock
Additional Paid-In Capital
6,400
80,000
36,400
25,000
25,000
(2) The excess of future cash flow over the remaining carrying value of the
debt, will be interest ($8,400). A new effective interest rate must be
determined. The interest expense each year will be determined by multiplying
the new effective rate times the carrying amount of the note at the beginning
of the year.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-12
a.
Chapter 11 Reorganization
Recovery analysis for plan of reorganization:
Polydorous Corporation
Plan of Reorganization
Recovery Analysis
Recovery
Elimination of
Debt and
Equity
Post-petition liabilities
(10,000)
Surviving
Debt
Cash
12%
Secured
Notes
(10,000)
(160,000)
20,000
(40,000) (100,000)
Interest Payable
(20,000)
10,000
(10,000)
Notes Payable, 10%
(340,000)
60,000
(10,000) (240,000)
Total
(520,000)
90,000
Preferred Shareholders
(100,000)
Common Shareholders
Total
Total Recovery
$
%
(10,000)
Claims/Interest:
Accounts Payable
Retained Earnings Deficit
Common Stock
%
Value
100%
(140,000)
88
(10,000)
50
30
(30,000) (280,000)
82
50,000
50
(50,000)
(50,000)
(150,000) 130,000
20
(20,000)
(20,000)
(100,000)
510,000
80,000
(80,000)
(700,000) 190,000
(10,000) (60,000) (340,000) 100%
Note: $700,000 total equities includes $690,000 pre-petition and $10,000 post-petition increase.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-12 (continued)
b.
Analysis for evaluating qualifications for fresh start accounting:
First condition:
Post-petition liabilities
Liabilities deferred pursuant to Chapter 11 proceedings
Total post-petition liabilities and allowed claims
Reorganization value
Excess of liabilities over reorganization value
$ 10,000
520,000
$530,000
(510,000)
$ 20,000
Second condition:
Holders of existing voting shares immediately before confirmation
receive 20% of voting shares of emerging entity.
Therefore, both conditions for a fresh start occur, and fresh
start accounting is used to account for the company.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-12
c.
(continued)
Entries for execution of plan of reorganization:
(1)
(2)
(3)
Liabilities Subject to Compromise
Cash
Notes Payable, 12%, secured
Common Stock (new)
Gain on Debt Discharge
Record debt discharge.
520,000
Preferred Stock
Common Stock (old)
Common Stock (new)
Additional Paid-In Capital
Record exchange of stock for stock.
100,000
150,000
60,000
340,000
30,000
90,000
70,000
180,000
Reorganization Value in Excess of Amounts
Allocable to Identifiable Assets
30,000
Gain on Debt Discharge
90,000
Additional Paid-In Capital
180,000
Accounts Receivable (net)
Inventory
Property, Plant, and Equipment
Goodwill
Retained Earnings__Deficit
Record fresh start accounting and eliminate
deficit.
30,000
7,000
143,000
40,000
80,000
Schedule to support allocation of reorganization value:
Book
Value
Cash
Accounts Receivable (net)
Inventory
Property, Plant, and
Equipment (net)
Goodwill
Reorganization Value in Excess
of Amounts Allocable to
Identifiable Assets
Total
Fair
Value
Difference
$ 30,000
140,000
25,000
$ 30,000
110,000
18,000
$
-0(30,000)
(7,000)
405,000
40,000
262,000
-0-
(143,000)
(40,000)
-0$640,000
30,000
$450,000
30,000
$(190,000)
Note: The post-reorganization total fair value is the reorganization
value of $510,000 less the $60,000 paid to fulfill the plan of
reorganization.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-12
(continued)
d.
Fresh start balance sheet workpaper for company emerging from reorganization:
(Worksheet not required)
Preconfirmation
Assets
Cash
Accounts Receivable (net)
Inventory
Property, Plant,
and Equipment (net)
Goodwill
Reorganization Value In
Excess of Amounts
Allocable to
Identifiable Assets
Total
90,000
140,000
25,000
245,000
Adjustments to Record
Confirmation of Plan
Debt
Exchange
Fresh
Discharge of Stock
Start
(60,000)
(30,000)
(7,000)
405,000
40,000
700,000
(60,000)
Liabilities
Liabilities Not Subject
to Compromise:
Current Liabilities
(10,000)
Liabilities Subject
to Compromise
(520,000) 520,000
Notes Payable, 12%, secured
(340,000)
Total Liabilities
(530,000) 180,000
Shareholders' Equity
Preferred Stock
Common Stock (old)
Common Stock (new)
Additional Paid-In Capital
Retained Earnings
Total Shareholders' Equity
Total
(100,000)
(150,000)
80,000
30,000
110,000
18,000
158,000
(143,000)
(40,000)
262,000
30,000
(190,000)
30,000
450,000
(10,000)
(340,000)
(350,000)
100,000
150,000
(30,000) (70,000)
(180,000)
(90,000)
(170,000) (120,000)
(700,000)
60,000
Company's
Reorganized
Balance
Sheet
-0-0-
(100,000)
180,000
90,000
(80,000)
-0190,000 (100,000)
190,000 (450,000)
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-12
(continued)
d. Balance sheet for company emerging from Chapter 11 reorganization with fresh
start accounting:
Polydorous Company
Balance Sheet
Emerging Date
Assets
Cash
Accounts Receivable (net)
Inventory
Total Current Assets
$ 30,000
110,000
18,000
$158,000
Property, Plant, and Equipment (net)
Reorganization Value In Excess of Amounts
Allocable to Identifiable Assets
Total Assets
262,000
30,000
$450,000
Liabilities
Accounts Payable
Notes Payable, 12%, secured
Total Liabilities
$ 10,000
340,000
$350,000
Shareholders' Equity
Common Stock
Total Shareholders' Equity
Total Liabilities and Shareholders' Equity
100,000
$100,000
$450,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-13
a.
Chapter 11 Reorganization
Recovery analysis for plan of reorganization:
Solo, Inc.
Plan of Reorganization
Recovery Analysis
Recovery
Elimination
of Debt
Surviving
and Equity
Debt
Post-petition liabilities
Claims/Interest:
Accounts Payable
(65,000)
Reduction
of Company's
Assets
Common Stock
%
Value
(65,000)
Total
$
Recovery
%
(65,000)
100%
(190,000)
59,000
(95,000)
40
(36,000) (131,000)
69
Notes Payable
(200,000)
64,000
(100,000)
40
(36,000) (136,000)
68
Bonds Payable
(400,000)
20,000
(380,000)
95
Total
(790,000)
143,000
(50,000)
41,000
10
(9,000)
(9,000)
(100,000)
91,000
10
(9,000)
(9,000)
Additional Paid-In
(25,000)
25,000
Retained Earnings Deficit
190,000
(190,000)
(840,000)
110,000
Preferred Shareholders
Common Shareholders
Total
(380,000)
(445,000)
(195,000)
100%
(90,000) (730,000)
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-13 (continued)
b.
Analysis for evaluating qualifications for fresh start accounting:
First condition:
Post-petition liabilities
Liabilities deferred pursuant to Chapter 11 proceedings
Total post-petition liabilities and allowed claims
Reorganization value
Excess of liabilities over reorganization value
$ 65,000
790,000
$855,000
(730,000)
$125,000
Second condition:
Holders of existing voting shares immediately before confirmation
receive 10% of voting shares of emerging entity.
Therefore, both conditions for a fresh start occur, and fresh start
accounting is used to account for the company.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-13
c.
(continued)
Entries for execution of plan of reorganization:
(1)
(2)
(3)
Liabilities Subject to Compromise
Accounts Receivable (net)
Land
Bonds Payable, 9%
Common Stock (12,000 shares, no-par)
Gain on Disposal of Land
Gain on Debt Discharge
Record debt discharge.
790,000
Preferred Stock
Common Stock (old, $5 par)
Additional Paid-In Capital
Common Stock (3,000 shares, no-par)
Additional Paid-In Capital
Record exchange of stock for stock.
50,000
100,000
25,000
Patents
Reorganization Value in Excess of Amounts
Allocable to Identifiable Assets
Gain on Disposal of Land
Gain on Debt Discharge
Additional Paid-In Capital
Inventory
Property, Plant, and Equipment
Goodwill
Retained Earnings__Deficit
Record fresh start accounting and
eliminate deficit.
30,000
95,000
70,000
380,000
72,000
30,000
143,000
18,000
157,000
15,000
30,000
143,000
157,000
10,000
145,000
30,000
190,000
Schedule to support allocation of reorganization value:
Book
Value
Fair
Value
Cash
Inventory
Property, Plant, and
Equipment (net)
Patents
Goodwill
Reorganization Value in Excess
of Amounts Allocable to
Identifiable Assets
$ 25,000
160,000
$ 25,000
150,000
400,000
60,000
30,000
255,000
90,000
-0-
-0-
15,000
Total
$675,000
$535,000
Difference
$
-0(10,000)
(145,000)
30,000
(30,000)
15,000
$(140,000)
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-13
d.
(continued)
Fresh start balance sheet workpaper for company emerging from reorganization:
Preconfirmation
Assets
Cash
Accounts
Receivable (net)
Inventory
Land
Property, Plant,
and Equipment (net)
Patents
Goodwill
Reorganization Value
in Excess of Amounts
Allocable to
Identifiable Assets
25,000
95,000
160,000
280,000
70,000
Liabilities
Liabilities Not Subject
to Compromise:
Current Liabilities
(65,000)
Liabilities Subject
to Compromise
Bonds Payable, 9%
(790,000)
Total Liabilities
(855,000)
Retained Earnings
Total Shareholders'
Equity
Total
(95,000)
(10,000)
(70,000)
(145,000)
30,000
(30,000)
15,000
840,000
(165,000)
15,000
535,000
(380,000)
410,000
(445,000)
(25,000)
(840,000)
(140,000)
255,000
90,000
-0-
790,000
(380,000)
(72,000)
15,000
-0-
-0150,000
175,000
-0-
(65,000)
(50,000)
(100,000)
190,000
Company's
Reorganized
Balance
Sheet
25,000
400,000
60,000
30,000
Total
Shareholders' Equity
Preferred Stock
Common Stock (old)
Common Stock (new)
Additional
Paid-In Capital
Adjustments to Record
Confirmation of Plan
Debt
Exchange
Fresh
Discharge
of Stock
Start
50,000
100,000
(18,000)
25,000
(157,000)
(30,000)
(143,000)
(90,000)
157,000
30,000
143,000
(190,000)
-0-
(245,000)
-0-
140,000
(90,000)
165,000
-0-
140,000
(535,000)
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
(Page Intentionally Left Blank)
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-14
Chapter 7 Liquidation, Statement of Affairs
Name Brand Company
Statement of Affairs
July 31, 20X1
Assets
Estimated
Current
Values
Book
Value
(1) Assets pledged with fully secured
creditors:
$ 50,000
Accounts receivable (net)
Less: 12% note payable and
interest
80,000
162,000
Land
Plant and equipment (net)
Less: Mortgages payable
and interest
(2) Assets pledged with partially
secured creditors:
30,000
Marketable securities
Less: 10% note payable
and interest
79,000
5,000
55,000
81,000
7,000
250,000
72,000
Inventory
Less: Accounts payable
(3) Free assets:
Cash
Accounts receivable (net)
Inventory
Prepaid insurance
Plant and equipment (net)
Franchises
Estimated amount available
Less: Creditors with priority
Net available to unsecured creditors
Estimated deficiency
Estimated
Amount
Available
to
Unsecured
Claims
Estimated
Gain
(Loss) on
Realization
$ 50,000
(44,000) $
6,000
$110,000
150,000
$260,000
(234,600)
$
30,000
(12,000)
25,400
$ 22,000
(8,000)
(29,400)
$ 75,000
(105,000)
$
5,000
55,000
76,000
1,500
190,000
30,000
(4,000)
5,000
55,000
76,000
1,500
190,000
30,000
(5,000)
(5,500)
(60,000)
(42,000)
$388,900
45,000
$343,900
82,500
$871,000
$(106,500)
Total unsecured debt
$426,400
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-14
(continued)
Equities
Estimated
Amount
Unsecured
Book
Value
$ 44,000
234,600
29,400
(1) Fully secured creditors:
12% note payable and interest
Mortgages payable and interest
(2) Partially secured creditors:
10% note payable and interest
Less: Marketable securities
105,000
-020,000
12,000
160,000
212,000
17,000
240,000
(203,000)
$871,000
b.
Accounts payable
Less: Inventory
$ 44,000
234,600
$278,600
$ 29,400
(22,000) $
$105,000
(75,000)
(3) Creditors with priority:
Estimated liquidation expenses
Wages payable
Taxes payable
7,400
30,000
$ 13,000
20,000
12,000
$ 45,000
(4) Unsecured creditors:
Accounts payable
Notes payable
Interest payable
160,000
212,000
17,000
(5) Stockholders' equity:
Common stock
Retained earnings (deficit)
Percentage to unsecured creditors:
$426,400
$343,900
$426,400
= 80.65%
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-15
Chapter 7 Liquidation, Statement of Affairs [AICPA Adapted]
a.
Tower, Inc.
Statement of Affairs
December 31, 20X1
Assets
Estimated
Current
Values
Book
Value
$ 40,000
13,000
90,000
120,000
(1) Assets pledged with fully secured
creditors:
Accounts receivable
Land
Building (net)
Machinery (net)
$ 40,000
25,000
110,000
75,000
$250,000
Less: Fully secured claims
from liability side:
Note payable__bank
$ 30,000
Mortgage payable and
related interest
132,400 (162,400)
(2) Assets pledged with partially
secured creditors:
20,200
Marketable securities
Accrued interest
Less: Notes payable (to bank)
1,500
35,000
60,000
40,000
20,000
5,000
Estimated amount available for unsecured
creditors, including creditors with
priority
Less: Liabilities with priority
Estimated amount available for unsecured
creditors
Estimated deficiency to unsecured
creditors (plug)
Total unsecured debt
Estimated
Gain
(Loss) on
Realization
$ 12,000
20,000
(45,000)
$87,600
$ 19,000
200
$ 19,200
(19,200)
(3) Free assets:
Cash
Accounts receivable (after
reclassifying $5,000 of credit
balances to accounts payable)
Finished goods
Raw materials (net of $10,000
of conversion costs)
Goodwill
Prepaid expenses
$444,700
Estimated
Amount
Available
to
Unsecured
Claims
(1,000)
$ 1,500
1,500
35,000
50,000
35,000
50,000
60,000
60,000
(10,000)
20,000
(20,000)
(5,000)
$234,100
(41,500)
$192,600
18,200
$(29,000)
$210,800
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-15
(continued)
Book
Value
$ 30,000
132,400
20,000
Amount
Unsecured
Liabilities and Stockholders' Equity
(1) Fully secured creditors:
Notes payable__bank
Mortgage payable and interest
Total (deducted on asset side)
(2) Partially secured creditors:
Notes payable__bank
Less: Pledged marketable
securities and interest
(from asset side)
(3) Liabilities with priority:
Estimated liquidation expenses
15,000
Wages payable
15,500
Payroll taxes payable
Total (deducted on asset side)
$ 30,000
132,400
$162,400
$ 20,000
(19,200)
$
800
$ 11,000
15,000
15,500
$ 41,500
(4) Unsecured creditors:
Accounts payable (after excluding $15,000
of payroll taxes payable and including
$5,000 of credit balances reclassified
from accounts receivable)
85,000
Notes payable
5,000
Audit fee of prior year
50,000
Contingent liability on damage suit
70,000
70,000
85,000
5,000
50,000
21,800 (5) Stockholders' equity, after giving effect
to unrecorded items that are properly
bookable as of December 31, 20X1*
($100,000 - $20,000 - $500 + $200
- $500 - $2,400 - $5,000 - $50,000)
$444,700
Total unsecured debt
$210,800
* Common stock, $100,000; retained earnings deficit, ($20,000); cash expended
for travel, ($500); accrued interest receivable, $200; unrecorded employer's
payroll taxes, ($500); unrecorded interest on mortgage, ($2,400); bill for last
year's audit, ($5,000); and probable damage suit judgment, ($50,000).
b.
Estimated settlement per dollar of unsecured liabilities:
Estimated amount available for
unsecured creditors
Total unsecured debt
$192,600 = $0.914
$210,800
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-16
a.
Financial Statements for a Firm in Chapter 11 Proceedings.
Income statement for a company in reorganization proceedings:
Hobbes Company
(Debtor-in-Possession)
Income Statement
For the Year December 31, 20X2
Revenue:
Sales
$246,000
Cost and Expenses:
Cost of Goods Sold
Selling, Operating, and Administrative
Interest (contractual interest $51,000)
170,000
50,000
4,000
Earnings before Reorganization Items and
Income Taxes
Reorganization Items:
Professional Fees
Interest Earned on Accumulated Cash
Resulting from Chapter 11 Proceeding
Total Reorganization Items
$ 22,000
$(15,000)
3,000
(12,000)
Income before Income Tax and
Discontinued Operations
$ 10,000
Income Tax
(5,000)
Income before Discontinued Operations
Discontinued Operations:
Operating Loss, Net-of-Tax
Gain on Sale of Assets, Net-of-Tax
Net Discontinued Operations
Net Loss
$
5,000
$(16,000)
9,000
(7,000)
$ (2,000)
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-16
b.
(continued)
Statement of cash flows for a company in reorganization proceedings:
Hobbes Company
(Debtor-in-Possession)
Statement of Cash Flows
For the Year December 31, 20X2
Cash Flows from Operating Activities:
Cash Received from Customers
Cash Paid to Suppliers and Employees
Interest Paid
Net Cash Provided by Continuing Operating
Activities before Reorganization Items
$264,000
(206,000)
(4,000)
$ 54,000
Operating Cash Flows from Reorganization Activities
Professional Fees
Interest Received on Cash Accumulated Because
of Chapter 11 Proceeding
Net Cash Used by Reorganization Items
3,000
$(12,000)
Operating Cash Flows from Discontinued Operations
Net Cash Used by Discontinued Operations
$ (3,000)
Net Cash Provided by Operating Activities
$ 39,000
Cash Flows Provided by Investing Activities:
Proceeds from Sale of Assets Due to
Chapter 11 Proceeding
Net Cash Provided by Investing Activities
$ 18,000
$ 18,000
Cash Flows Provided by Financing Activities:
Net Borrowings under Short-Term Financing Plan
Principal Payments on Pre-petition Debt
Authorized by Court (Bonds Payable)
Net Cash Provided from Financing Activities
Net Increase in Cash
Cash at January 1, 20X2
Cash at December 31, 20X2
(15,000)
$ 10,000
$
(10,000)
-0-
$ 57,000
15,000
$ 72,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-16
c.
(continued)
Balance sheet for a company in reorganization proceedings:
Hobbes Company
(Debtor-in-Possession)
Balance Sheet
December 31, 20X2
Assets
Cash
Accounts Receivable (net)
Inventory
Total Current Assets
$ 72,000
47,000
88,000
$207,000
Property, Plant, and Equipment (net)
460,000
Total Assets
$667,000
Liabilities
Liabilities Not Subject to Compromise
Current Liabilities (post petition):
Short-Term Borrowings
Accounts Payable__Trade
Total Liabilities Not Subject to Compromise
$ 10,000
7,000
$ 17,000
Liabilities Subject to Compromise (pre-petition):
Accounts Payable
$138,000
Notes Payable, 10%
170,000
Bonds Payable, 12%
240,000*
Accrued Interest Payable
47,000
Total Liabilities Subject to Compromise
595,000
Total Liabilities
$612,000
Shareholders' Equity
Preferred Stock
$ 50,000
Common Stock ($1 par)
50,000
Additional Paid-In Capital
75,000
Retained Earnings (Deficit)
(120,000)
Total Shareholders' Equity
Total Liabilities and Shareholders' Equity
55,000
$667,000
* $10,000 payment approved by the Court, reducing pre-petition bonds payable
from $250,000 to $240,000.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-17*
Statement of Realization and Liquidation
Nelson Company
R. Smith, Receiver
Statement of Realization and Liquidation
May 1, 20X1, to June 30, 20X1
Assets
Assets to be Realized
Marketable Securities
Old Receivables, net
Old Inventory
Land
Plant and Equipment, net
Assets Realized
$ 12,000
33,000
50,000
40,000
110,000
Assets Acquired
New Inventory
New Receivables
Sales of Inventory
Old Receivables
New Receivables
Marketable Securities
$ 90,000
14,000
53,000
16,000
Assets not Realized
24,000
90,000
New Inventory
Old Receivables, net
New Receivables, net
Land
Plant and Equipment, net
14,000
17,000
33,000
40,000
98,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-17 (continued)
Supplementary Items
Supplementary Charges
Operating Expenses
Receiver's Expenses
Supplementary Credits
15,000
6,000
Net Loss
5,000
Liabilities
Debts Liquidated
Old Current Payables
New Current Payables
Debts to be Liquidated
73,000
9,000
Debts Not Liquidated
Old Current Payables
New Current Payables
Mortgages Payables
Old Current Payables
Mortgages Payable
138,000
80,000
Debts Incurred
65,000
15,000
80,000
$622,000
New Current Payables
24,000
$622,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-18
a.
Modification of Debt Terms: Entries for Debtor and Creditor
Accounting by Thomas Company, the Creditor:
Carrying Value (prerestructured amount):
Principal
$600,000
Accrued Interest
36,000
Carrying Value
Total Future Cash Flows:
Principal
$400,000
Interest ($20,000 x 2)
40,000
Total future cash flows
$440,000
Present Value of Total Future
Cash Flows (given in problem)
Bad Debt Expense
$636,000
(392,668)
$243,332
Creditor's Journal Entries:
December 31, 20X6
Bad Debt Expense (or Allow. for Uncoll.)
243,332
Loan Receivable
Accrued Interest Receivable
Valuation Allowance for Impaired Loans
(contra-loan rec.)
Balance Sheet on December 31, 20X6:
Loan Receivable
Less: Valuation Allowance
Net Loan Receivable
200,000
36,000
7,332
$400,000 [= Maturity Value]
(7,332)
$392,668 [= PV of TFCF]
December 31, 20X7
Cash
20,000
Valuation Allowance for Impaired Loans
3,560
Interest Income
($23,560 = $392,668 PV x .06 interest rate)
23,560
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-18
(continued)
December 31, 20X8
Cash
20,000
Valuation Allowance for Impaired Loans
3,772
Interest Income
Present value of loan
at 12/31/X6
$392,668
Plus allowance reduction
3,560
New present value for 20X8
$396,228
x .06 interest rate
x
.06
Interest income for 20X8
$ 23,772 (rounded)
Cash
23,772
400,000
Loan Receivable
400,000
Valuation Allowance for Impaired Loans
| 12/31/X6
7,332
12/31/X6
3,560
|
12/31/X7
3,772
|
| Balance
-0-
b.
Debtor's journal entries:
Carrying Value of Debt:
Principal
Interest
Total carrying value
Total Future Cash Flows
Principal
Interest ($20,000 x 2)
Total future cash flows
Extraordinary Gain to Debtor
$600,000
36,000
$636,000
$400,000
40,000
December 31, 20X6
Notes Payable
Accrued Interest Payable
Restructured Debt Payable
Gain on Debt Restructure
(extraordinary)
December 31, 20X7
Restructured Debt Payable
Cash
December 31, 20X8
Restructured Debt Payable
Cash
$420,000 = $20,000 interest
+ $400,000 principal
(440,000)
$196,000
600,000
36,000
440,000
196,000
20,000
20,000
420,000
420,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2002
P20-19
Assessing a Liquidation Plan [AICPA Adapted]
1.
$825,000
Sales
$900,000 (10,000 units @ $90)
Beginning accounts rec.
-0Total
$900,000
Less ending accts. rec.
(75,000) ($900,000 x 1/12)
Collections from customers $825,000
2.
$750,000
Direct materials
$220,000 (schedule 1 below)
Direct manuf. labor
300,000 (10,000 units x $30)
VOH
100,000 (10,000 units x $10)
Fixed costs
130,000
Total
$750,000
Schedule 1:
Direct materials required for production
(10,000 units x $20)
$200,000
Required ending inventory
(12,000 units x 2/12 x $20)
40,000
Total
$240,000
Less beginning inventory
-0Purchases
$240,000
Beginning accounts payable
-0Total
$240,000
Less ending accounts payable
(12,000 units x 1/12 x $20)
(20,000)
Disbursements for direct materials
$220,000
3.
$200,000
Units to be purchased
Unit production cost for direct materials
Cost of direct material required
4.
$245,000
5.
$90,000
P20-19
10,000 units
x
$20
$200,000
Direct materials required for production
(12,000 units x $20)
$240,000
Required ending inventory
(15,000 units x 2/12 x $20)
50,000
Total
$290,000
Less beginning inventory
(40,000)
Purchases
$250,000
Beginning accounts payable
20,000
Total
$270,000
Less ending accounts payable
(15,000 units x 1/12 x $20)
(25,000)
Disbursements for direct materials
$245,000
Liquidation values at March 31, 20X4
Accounts receivable
Inventories
Total
$50,000
40,000
$90,000
(continued)
McGraw-Hill/Irwin
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6. $270,000
In 20X6, the total payments to general creditors should total
$360,000 ($600,000 x .60) Payments to creditors in the year ended March 31,
20X5, totaled $90,000 ($50,000 from accounts receivable and $40,000 from
inventory. Thus, payments for the year ended 20X6, should equal $270,000
($360,000 - $90,000)
7.
$50,000
In 20X7, the company would have a contract for 15,000 units.
Mayne must keep 60 days (2 months) of inventory on hand. Therefore, at
March 31, 20X6, Mayne needs 2,500 units (15,000 x 2/12) in inventory.
These units cost $20 per unit; therefore, the inventory balance at march
31, 20X6, is $50,000.
8.
$25,000
Because purchases are paid in the month following the
purchase, the accounts payable balance at March 31, 20X6, should equal 1
month’s purchases. Purchases made each month are equal to 30 days’ usage;
therefore, accounts payable at March 31, 20X6, should equal $25,000
(15,000 units x 1/12 x $20).
9.
$300,000
10. $120,000
Production
Direct manufacturing cost
Disbursements for direct labor
10,000 units
x
$30
$300,000
Production
12,000 units
Variable overhead cost
x
$10
Disbursements for variable ovhd. $120,000
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