Journal of Accountancy

ployed in such circumstances. Not having engaged any in the past I do not know in just what way their services would be useful to me in making up my mind or in taking delivery if I should accept the proposition.

"Will you kindly advise me in the matter?"

Write an answer to the above letter.

Answer, Question 6:

DEAR SIR:

The advisability of purchasing a business depends upon two factors: the value of the net assets and the amount and stability of the profits. A public accountant may be of service to a prospective purchaser by making an examination of the books of the business and rendering an unprejudiced report covering the net assets and the profits.

As to the net assets of the business which you contemplate purchasing, the plant and real estate should be appraised unless you are expert enough in the valuation of such property to be willing to reply on your own judgment. An accountant can report on the value of the other assets after making an audit. If you are to assume the liabilities of the business as part of the contract of purchase, you will want to be as certain as possible that all the liabilities are on the books and included in the $120,000.00. The search for unrecorded liabilities is part of the service which an accountant can render in such cases.

If an audit shows the assets and liabilities to be as stated, and if you are to get the $30,000.00 cash, the conditions are as follows:

The payment of this excess would be inadvisable unless the profits are sufficiently good to insure you a return on this extra investment. In other words, you are being asked to pay $140,000.00 for the goodwill of the business, and you ought to be quite certain that the business has a goodwill. This is where an accountant can probably be of the greatest service to you by checking up the books of the business for several years to see whether the profits have been properly computed, whether they have been large enough to pay a return on the excess payment of $140,000.00, and whether they have been stable enough to make it probable that your investment of $500,000.00 will pay a good income regularly.

If you care to have me go into this matter for you, we can arrange a conference to discuss the details.

Yours truly,

EXAMINATION IN ACCOUNTING THEORY AND PRACTICE

PART II

November 17, 1920, 1 P. M. to 6 P. M.

Answer questions 1, 2 and 3 and any three other questions.

Question 1:

You are requested by the president of a corporation to assist in the preparation of the federal income and excess-profits tax return of his company for the calendar year 1919, and for the purpose thereof the following data are submitted to you:

THE NOVEMBER CORPORATION
CONDENSED TRIAL BALANCE (AFTER CLOSING)

For the year from January 1, 1919, to December 31, 1919

You are also informed that the company was organized on January 1, 1910, with an authorized and issued capital of $4,150,000.00, divided as to

Preferred stock
Common stock

$1,650,000.00
2,500,000.00

You are further informed that of this capital $1,000,000.00 common stock was sold to an underwriting syndicate for cash at par, less 6% commission, and that the remainder of the stock was issued to the vendor company in acquisition of the business property, goodwill and other assets taken over. The capital stock outstanding has been unchanged from the date of organization to January 1, 1919, except as to the redemption of the preferred stock indicated, which took place March 31, 1917. The book values of the fixed properties are based on an appraisal made by an appraisal company as at March 1, 1913. In addition to the common stock dividend paid during the year, the company issued a further $1,000,000.00 common stock, which was sold for cash at par as follows:

August 31..
October 31..

$500,000.00
500,000.00

On October 31, 1919, it also redeemed for cash and retired preferred stock at par to the amount of $375,000.00.

You may assume the company was not engaged on any government contracts throughout the year 1919.

Prepare draft statements showing

(1)` The amount of the company's “invested capital" for the year, which the treasury authorities will recognize for the purpose of computation of the taxes.

(2) The taxable net income for the year.

(3) The amount of income and excess-profits taxes assessable for the year. Excess-profits exemptions for 1919 were 8% of invested capital plus $3,000.00. Excess-profits rates for 1919 were:

First bracket
Second bracket

20%

40%

Income following in first bracket is that portion thereof not exceeding 20% of invested capital. Income-tax rate for 1919 was 10%, with exemptions of $2,000.00.

(a) Net taxable income:

Solution, Question 1 (by Eric L. Kohler)