Algonquin Outfitters Background You are an Analyst for the professional service

Question

Algonquin Outfitters

Background

You are an Analyst for the professional service firm, BUSI 1043 LLP. Your firm specializes in providing a wide variety of internal business solutions for different clients. Since you enjoyed your time in Muskoka compiling the Financial Statements for Henrietta’s Pine Bakery, the Senior Manager from your previous engagement gave you another northern Ontario client, Algonquin Outfitters.

Additional Information

Algonquin Outfitters follows the Accounting Standards for Private Enterprises. Despite its revenues, AO operates with few administrative staff, currently employing 12 individuals in addition to the owner, who is there every day.

The owner is considering expanding his operations into the Haliburton Highlands. In order to do so he will have to look into financing options. He is contemplating two debt options: traditional bank financing, or bonds. He is also considering selling some of his common shares to five of his friends and relatives. He is unsure of how these options would impact him and the current organization of his company.

In December of this year, one of AO’s trucks carrying bike and ski lubrication was in an accident. The substance spilled into a local river, contaminating the water supply. AO’s layers have stated that the local residents have filed a lawsuit for $2 million. They expect that AO will be found guilty but the settlement will be between $1.0 million and $1.8 million. AO has let its insurance policy expire and therefore does not have any coverage.

On December 31, four of AO’s trucks were loaded with customer freight and sitting at AO’s loading docks. The goods were delivered to the customers on January 5th and 6th respectively. The revenue of $80,000 was recorded in the books on December 31st.

The owner knows about the importance of internal controls but believes he needs a refresher. He had an individual from purchasing leave earlier this year and is now using the accounts payable person who also prepares the cheques to take care of all purchases. He is beginning to think that this is a good idea as it would save one salary. On the other hand, he does want to maintain controls and is interested in eliminating all potential problems. He would like your recommendations about how he should deal with this.

AO purchased equipment on January 1 five years ago for $80,000 and estimated an $8,000 salvage value at the end of the equipment’s 10-year useful life. On March 31st of this year, the equipment was sold for $21,000. The last entry to record depreciation was at December 21st of the prior year. No entries for the sale have been made yet.

The year end for AO is December 31st. It is now April 20th and you have been asked to provide a memo to your Senior Manager that can be used as the basis for discussion with the owner that addresses the issues that concern you and the owner. You must address all of the issues in depth and provide recommendations on how to account for them.

Required

Prepare the memo.

Identify the role you are playing.

Assess the financial reporting landscape, considering the user needs, constraints, and business environment;

Identify and Analyze issues.

Provide Recommendations

Explanation / Answer

Analyst needs to recommend the solutions for appropriate financial reporting considering the user needs. The following are the issues relating to the financial reporting which were given in the question.

Issues :

1. Selection of Financing option for expansion of the Algonquin Outfitters :

2. Treatment of contingent liability( Accident case)

3. Recognition of revenue (delivery in next financial year)

4 . Comment on internal controls

5. Depreciation cum profit on sale entries.

Explanation :

1.Selection of financing option :

Company must choose the option based on the debt equity ratio. If the company chooses the option of financing through debt mode, then it may affect the current profitability as the debt requires interest to be paid to the providers of loans. If it finances through equity , the payment of dividend will be based on the performance of the newly established wing of the business unlike debt financing. If the expansion of the business in the new area is risky then it is better to finance through equity by issuing the shares to family members and friends. If the equtiy shares are issued it may possible that the management composition may change accordingly

2. The issue here is whether the law suit filed against the company which gives rise to penalty , to be considered as provision or contingent liability. An enterprise shall recognise provision when it has a present obligation , as a result of past events , that probably requires an outflow of resources and a reliable estimate can be made of the amount of obligation, US GAAP requires contingent liability to be recorded in the foot notes of financial statements if there exist the high / medium probality of occurance of adverse event and reasonable estimation of costs. since in the present case there is no present obligation of payment of panalty but there is probability that the company may loose the case and made laible for the penalty. So it is appropriate to show the laibility as contigent liability in the foot of financial statement.

3. Sales will be recognised based on terms of the agreement between the customer and seller. If the terms of agreement specify that the goods should be delivered at customers place then the point of sale shall be only after the goods are delivered and the satisfaction of the goods by the customer. Sale shall be recognised in the financial statements once after the ownership of goods are transfered to the customers. The transfer of the ownership takes place only after the delivery of goods. In the present case the sales shouldn't be recognised in the the current year and it is appropriate to recognise the revenue in the next year only.

4. As relating to the internal control aspect of the company, there should be diversed handling of the work relating to purchases and accounts in order to eliminate the malafide actions by the employees to get undue gain..There shouldn't be an open opportunity for the employees to misuse the authorization given to them and it must be noted that all the work should not be vested with one person. Interal controls and interal checks must be there within the organisation to get better financial results. However , if he wants to reduce the employee cost he can do it , but should desing the interal controls acccordingly. some of the internal controls are setting up of monitory levels for getting authorization of purchases, frequent audit of the purchase trasactions etc.

5. Sale of machinery ;

Purchase price of the machine = 80000

Salvage value =8000

Useful life of machine = 10years

depriciation per year = 72000/10 = 7200

Book value of machine at the

time of previous record of depreciation = 80000-7200*5= 44000

book value at the time of sale = 7200/365*100= 1792 = 44000-1792 =42208

The mchine was sold for 21000 that gives 21208 loss on sale of machinery. The loss should be recognised in the current year accordingly.

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