At the Beginning of 2008,Kurt Franz Retired as President and Principal

question 79

Essay

At the beginning of 2008,Kurt Franz retired as president and principal stockholder in KRF Corporation,a successful producer of personal computer equipment.As an incentive to the new management,Franz supported the board of directors' new executive compensation plan,which provides cash bonuses to key executives for years in which the company's earnings per share equal or exceed the current dividends per share of $2.00,plus a $.20 per share increase in dividends for each future year.Thus,for management to receive the bonuses,the company must earn per-share income of $2.00 the first year,$2.20 the second,$2.40 the third,and so forth.Since Franz owns 500,000 of the 1,000,000 common shares outstanding,the dividend income will provide for his retirement years.He is also protected against inflation by the regular increase in dividends.Earnings and dividends per share for the first three years of operation under the new management were as follows:
$$\begin{array} { | l | r | r | r | } \hline & 2010 & 2009 & 2001 \\\hline \text { Earninge per share } & \$2.50 &\$2.50 &\$2.50\\\hline \text { Dividends per share } & 2.50 & 2.20 & 2.00 \\\hline\end{array}$$ During this time,management earned bonuses totaling more than $1 million under the compensation plan.Franz,who had taken no active part on the board of directors,began to worry about the unchanging level of earnings and decided to study the company's annual report more carefully.The notes to the annual report revealed the following information:
1.Management changed from the LIFO inventory method to the FIFO method in 2008.The effect of the change was to decrease cost of goods sold by $200,000 in 2008,$300,000 in 2009,and $400,000 in 2010.
2.Management changed from the double-declining-balance accelerated depreciation method to the straight-line method in 2009.The effect of this change was to decrease depreciation by $400,000 in 2009 and by $500,000 in 2010.
3.In 2010,management increased the estimated useful life of intangible assets from five to ten years.The effect of this change was to decrease amortization expense by $100,000 in 2010.
a.Compute earnings per share for each year according to the accounting methods in use at the beginning of 2008.(Use common shares outstanding.)
b.Have the executives earned their bonuses? What serious effect has the compensation package apparently had on the net assets of KRF Corporation? How could Franz have protected himself from what happened?

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