A colleague of yours has been reviewing the second-quarter income statements for a number of companies and is questioning a number of the expense items included in the statements. For each of the following independent questions, provide a written response to your colleague’s questions.
1. A footnote accompanying Company A’s second-quarter income statement states that $360,000 was expended on research and development during the quarter on activities that should benefit operations over the next 24 months. Why does the second quarter reflect an expense of $120,000 rather than $15,000?
2. Company B reported pretax income in both the first and second quarters, and the statutory tax rate during those periods and for the balance of the year is 30%. Assume that there were no net operating losses in prior years for tax purposes. However, both of the quarters reported an effective tax rate of less than 30%. What could possibly explain this?
3. Assume the same facts as in part (2) except that the company only began operations last year, and it reported a net operating loss for both accounting and tax purposes last year. How might this fact explain why the first two quarters of the current year reported an effective tax rate of less than 30%?
4. Company C is subject to a progressive tax rate schedule whereby additional amounts of income are taxed at increasing rates. The recognition of revenues and expenses for accounting purposes and tax purposes is exactly the same, and no tax credits are available. Why would the effective tax rate for the second quarter be lower than for the first quarter of the current year?
5. Company D reported taxable income in the prior two years but reported tax losses in the first two quarters of the current year. The recognition of revenues and expenses for accounting purposes and tax purposes is exactly the same, and no tax credits are available. A tax loss is predicted for the current year. The statutory rate was 25% in the prior two years, but it is 30% in the current year. The effective annual tax rates in the first and second quarters of the current year are 18% and 28%, respectively. What might explain why the second-quarter effective tax rate is greater than the first quarter and that of the prior two years but less than 30%?
6. Company E is a distributor that has experienced increasing costs for units of inventory due to a severe shortage of available goods. Furthermore, the shortage has resulted in the company selling more goods in the first six months of the current year than it had purchased. Given the use of LIFO, why wouldn’t the current year-to-date cost of sales on a per-unit basis have decreased?