Grennell Farm (Case from Accounting Text and Cases twelfth edition) Early in 2006, Denise Grey was

notified by a lawyer that her recently deceased uncle had willed her the ownership of a 2,000-acre wheat farm in Iowa. The lawyer asked whether Grey wanted to keep the farm or sell it. Grey was an assistant vice president in the consumer credit department of a large New York bank. Despite the distance between New York and Iowa, grey was interested in retaining ownership of the farm if she could determine its profitability. During the last 10 years of his life, Jeremiah Grennell had hired professional managers to run his farm while he remained in semiretirement in Florida. Keeping the farm as an investment was particularly interesting to Grey for the following reasons. 1) Recent Grain deals with foreign countries had begun to increase present farm commodity prices, and many experts believed these prices would remain high for the next several years. 2) Although the number of small farms had decreased markedly in the last 20 years, Grennells use of mechanization and new hybrid seed varieties could be very profitable. 3) After some downward movement in the 1990s the value of good farmland in Iowa was beginning to appreciate at about 10 percent a year. Included in the lawyers letter were data on revenues and expenses for 2005 and certain information on balance sheet items, which are summarized below Beginning Inventory 2005 Wheat production Shipped to grain elevator Grain Stored at farm at end of 2005 2005 Expenses for Grennell Farm A. Production Cost per Bushel Seed Fertilizer and chemicals Machinery costs, fuel and repairs Part-time labor and other costs Total production cost per bushel B. Annual costs not related to volume of production Salaries and wages Insurance Taxes Depreciation Other Expenses Total cost not related to production volume $ 0.053 0.295 0.107 0.058 0.513 0 bushels 210,000 bushels 180,000 bushels 30,000 bushels

$ 72,500 4,500 32,500 28,500 45,000 183,000

Prices The average price per bushel that the elevator operator had agreed to pay for wheat shipped to the grain elevator in 2005 was $2.90. The price per bushel at the time of the wheat harvest was 2.80. the closing price per bushel on December 31, 2005, was 3.07. Accounts Receivable At year-end, the proceeds from 20,000 bushels shipped to the grain elevator had not yet been received from the elevator operator. The average sales price of these 20,000 bushels of wheat had been 2.98 per bushel. There were no uncollected proceeds on December 31, 2004 Cash The Farm had a checking account balance of 7,700 and a money market account balance of 23,200. Land The original cost of the land was 375,000. It was appraised for tax purposes at 1,050 per acre. Building and Machinery Buildings and machinery with an original cost of 412,500 and accumulated deprecation of 300,000 are employed on the farm. The equipment was appraised at net book value. Owners Equity Common stock has a par value of 7,500 plus an additional paid-in capital of 450,000. There was no record of retained earnings. It was known that jeremiah Grennell withdrew all of the farms earnings in the last few years in order to continue the lifestyle to which he had become accustomed in Florida. Looking over the data on revenues and expenses, Grey discovered that there were no monetary numbers for 2005s total revenues or ending inventory. The lawyers letter explained that there was some doubt in his mind about when revenue for the farm should be recognized and about the appropriate way to value the grain inventory. The lawyers understanding was that there are at least three alternative stages in the wheat growing cycle at which revenue could be counted in unaudited statements. First, the production method could be used. Since wheat has a daily valuation on the Chicago Commodity Exchange, any unsold inventory as of December 31 could be valued at market price very objectively. In this way, revenue can be counted for all wheat produced in a given year, regardless of whether it is sold or not. A decision not to sell this wheat before December 31 is based on speculation about future wheat price increases. Second, the sales method (also called the delivery method) could be used. This approach would recognize revenue, when the grain is purchased from the farm by the grain elevator operator in the neighboring town. In this instance, the owner of the grain elevator had just sold control to a kansas city company with limited experience n running such a facility. The manager of the Grennell Farm had expressed some concern about selling to an unknown operator. Third, the collection method could be used. Under this approach, revenue is counted when the cash is actually received by the farm from the grain elevator operator. Full collection

often took several months because a grain elevator operator might keep wheat for a considerable time in the hope that prices would rise so the elevator company could sell at a higher price than that paid the farmer. QUESTIONS 1. Prepare the 2005 income statement and related ending balance sheet for the Grennell Farm recognizing revenue by a. Sales (delivery method) b. Collection method c. Production Method (Hint: Under the collection method, AR are zero. Under the production method, ending inventory is zero. Under all three methods, assume beginning retained earnings are zero) 2. Assume that the Grennell Farm had received a firm offer of 225,000 for 100 acres of the farm that would be used as the site of a new housing development. This development would have no effect on the use of the remaining acreage as a farm, and Ms. Grey planned to accept it. How would you account in the 2005 financial statements for the economic gain represented by this appreciation in land values? (For number 2, you may opt not to answer it because Im not sure if it is part of the coverage for LT 3. If it is part then answer it if not do not and just ignore it) 3. Should Ms. Grey retain ownership of the farm? 4. Under the three methods different net income was reported for 2005. But how much did Jeremiah Grennell withdrew during 2005? (Note: at the end of 2005, 0 cash was left)