Exam 2: Financial Reporting and Analysis

Correct Answer:

Verified

$\begin{array}{c}\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\quad\text { Year1 } \\\begin{array}{|l|r|r|}\hline&\text { Historical cost }&\text { Fair Value }\\ \hline \text { Assets } & \\\hline \text { Cash* } & \$ 7,000 & \$ 7,000\\\hline \text { Building } & 108,000&150,000 \\\hline & \$ 115,000&\$157,000 \\\hline \text { Liabilities and Shareholder's equity } & \\\hline \text { Long-term debt } & \$ 50,000 &\$49,000\\\hline \text { Shareholders' equity } & 65,000 &108,000\\\hline & \$ 115,000 &\$157,000\\\hline & \\\hline \text { Income Statement } & \\\hline \text { Rental income } &\$ 10,000 & \$ 10,000 \\\hline \text { Depreciation } &(2,000) \\\hline \text { Interest expense } &(3,000) & (3,000) \\\hline \text { Unrealized gain loss on condo } & & 40,000 \\\hline \text { Unrealized gain loss on debt } &&1,000 \\\hline \text { Income (loss) } & \$ 5,000&\$48,000 \\\hline\end{array}\end{array}$
$$\begin{array}{l}\begin{array} { l r } \text { *Rental income received } & \$ 10,000 \\\text { Interest paid on bonds } & 3,000 \\\text { Cash in hand } & \mathbf { 7 , 0 0 0 }\end{array}\\\begin{aligned}\\\text { Depreciation on building } & = \frac { \text { Cost } - \text { salvage value } } { \text { Number of years } } \\& = \frac { \$ 110,000 - 50000 } { 30 } \\& = \$ 2,000\end{aligned}\end{array}$$ Notice that under fair value method, all assets and liabilities are considered at their market value. Fair value accounting does not consider any depreciation on fixed assets. It recognizes any unrealized gain or loss on assets or long-term debt on account of change in market value.