Brooke Remming is the Chief Executive Officer of Dundem Corp. The board of directors has agreed to pay Brooke a salary of $400,000 plus a 15% bonus if the company’s pretax income increases by at least 10% from the prior year. In the prior year, Dundem reported pretax income of $3,000,000.In the final week of the current year, Brooke projects that pretax income will be $3,250,000. While this is a nice increase over the prior year, she realizes that the increase is below the 10% required for her bonus. Brooke has devoted many years to the company and feels that the company has had another successful year thanks to her efforts and good decisions.As one example of a good decision, Brooke noticed earlier in the year that the company’s stock price had fallen to $42 per share. She felt that price was too low, so she used some of the company’s available cash to purchase 10,000 shares. The current price has risen to $50 per share, and she is considering whether to sell the stock. She calculates that the company will make a profit of $80,000 (= 10,000 shares × $8 increase per share) on the sale, and she would include the gain in pretax income. She feels this profit is possible only because of her good intuition, so it should be used in calculating whether she gets a bonus.Required:1. Understand the reporting effect: If Brooke sells the stock and includes the $80,000 gain in pretax income, will she get her bonus? Assume any bonus paid to Brooke is not included in calculating pretax income.2. Specify the options: Instead of reporting the gain as part of pretax income, how else might Brooke report the gain on the sale?3. Identify the impact: Does Brooke’s decision affect the company?4. Make a decision: Should Brooke record the gain on the sale of stock as part of pretax income?
Brooke Remming is the Chief Executive Officer of Dundem Corp. The board of directors has agreed to pay Brooke a salary of $400,000 plus a 15% bonus if the company’s pretax income increases by at least 10% from the prior year. In the prior year, Dundem reported pretax income of $3,000,000.
In the final week of the current year, Brooke projects that pretax income will be $3,250,000. While this is a nice increase over the prior year, she realizes that the increase is below the 10% required for her bonus. Brooke has devoted many years to the company and feels that the company has had another successful year thanks to her efforts and good decisions.
As one example of a good decision, Brooke noticed earlier in the year that the company’s stock price had fallen to $42 per share. She felt that price was too low, so she used some of the company’s available cash to purchase 10,000 shares. The current price has risen to $50 per share, and she is considering whether to sell the stock. She calculates that the company will make a profit of $80,000 (= 10,000 shares × $8 increase per share) on the sale, and she would include the gain in pretax income. She feels this profit is possible only because of her good intuition, so it should be used in calculating whether she gets a bonus.
Required:
1. Understand the reporting effect: If Brooke sells the stock and includes the $80,000 gain in pretax income, will she get her bonus? Assume any bonus paid to Brooke is not included in calculating pretax income.
2. Specify the options: Instead of reporting the gain as part of pretax income, how else might Brooke report the gain on the sale?
3. Identify the impact: Does Brooke’s decision affect the company?
4. Make a decision: Should Brooke record the gain on the sale of stock as part of pretax income?
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