Chapter 5, Problem 4P

Financial Statement Violations of U.S. GAAP The following are the financial statements issued by Allen Corporation for its fiscal year ended October 31, 2019:

Notes to Financial Statements:

1. Long-Term Lease. Under the terms of a 5-year, noncancelable lease for a building, Allen is obligated to make annual rental payments of $40,000 in each of the next 4 fiscal years.

2. Pension Plan. Substai1tially all employees are covered by Allen’s defined benefit pension plan. Pension expense is equal to the total of pension benefits accrued and paid to retired employees during the year. Because it is a defined benefit plan that is paid every year, no pension liability exists.

3. Patent. The patent had an estimated remaining life of 10 years at the time of purchase. Allen’s patent was purchased from Apex Corporation on January 1, 2019, for $250,000.

4. Deferred Income Tax Payable. The entire balai1ce in the Deferred Income Tax Payable account arose from tax-exempt municipal bonds that were held during the previous fiscal year, giving rise to a difference between taxable income and reported net earnings for the fiscal year ended October 31, 2019. The deferred liability amount was calculated on the basis of past tax rates.

5. Warrants. On January 1, 2018, one common stock warrant was issued to shareholders of record for each common share owned. An additional share of common stock is to be issued upon exercise of 10 stock warrants and receipt of an amount equal to par value. For the 6 months ended October 31, 2019, the average market value for Allen’s common stock was $5 per share and no warrants had yet been exercised.

6. Contingent Liability. On October 31, 2019, Allen was contingently liable for product warranties in an amount estimated to aggregate $75,000.

Required:

Next Level Review the preceding financial state1nents and related notes. Identify any inclusions or exclusions from them that would be in violation of GAAP, and indicate corrective action to be taken. Do not comment as to format or style. Respond in the following order:

1. Balance sheet

2. Notes

3. Income statement

4. Statement of retained earnings

5. General