Question

Bella Beauty Inc. (11111) has been in operations for just over five years and is a private company following ASPE. The company designs and manufactures high-end maternity clothing under the brand name of BBI Chic'. BBI experienced initial success; however, the company has struggled somewhat over the past 12 months due to the general economic downturn. BBI management has recently concluded that their target market is too narrow as many women are not willing to pay a premium for clothing they will wear only for a few months. Management has therefore decided to launch a more affordable clothing line that will be labelled BB! Trend'. They expect that by offering two different lines, they will be better poised to compete in the maternity clothing market. The main obstacle BBI faces is that it does not have sufficient capital to design, manufacture, and market the BBI Trend— line. The company has applied for a $150,000 extension of its operating facility from the bank. The bank is willing to discuss an extension as soon as 3131's audited financial statements for the year ending 31 December 20X8 are finalized. BBI has been forewarned that its debt-to-equity ratio as of fiscal year-end will be a determining factor in whether it will be granted the extension. The bank prefers a ratio below 2.5. The bank is also interested in reported income from continuing operations. Reporting income from continuing operations that is fairly consistent with the prior year would demonstrate that BBI is able to survive during trying economic conditions. The following information is available concerning BB! and its 31 December 20X8 draft financial statements: 11131's customers are maternity boutiques across Canada. Sales in December were strong for two main reasons:
• As a one-time offer, BBI offered special sales terms to many of its customers. Customers that placed their order in time for December delivery and paid in cash were granted the right to return their unsold merchandise at any time up until 15 April 20X9. Customers liked this option because it mitigated the risk of losses due to slow 20X9 sales. BBI was pleased to offer this deal as it increased customer satisfaction and resulted in December sales of $50,000. Bars products have an average margin of 40%.
• During fiscal 20X8, BBI entered into a deal with a well-known chain of maternity boutiques, Piper Inc. In November 20X8, Piper Inc. placed a custom order for silk T-shirts that would bear its store logo. Piper Inc. had very specific design specifications and contracted with BBI the right to refuse the delivered product and demand free rework should the T-shirts not meet its specs. The T-shirts were delivered on 15 December 20X8. Unfortunately, Piper Inc. rejected the T-shirts on the basis that they had tags sewn into the necks rather than silk-screened directly onto the fabric as was requested. BBI quickly admitted its mistake and had the T-shirts returned to be reworked. The reworked product was redelivered to Piper Inc. on 5 January 20X9. Piper Inc. accepted the delivery and paid in full shortly afterward. Due to the uniqueness of the order, Piper Inc did not qualify for the special sales terms. Since performance was 'substantially complete" in 20X8, BBI recorded these sales totaling $8,000 in its 20X8 financial statements. The sales manager for BBI performed a detailed analysis of margin by product in November. He determined that BBI's evening dresses were generally selling at negative margins. Based on this analysis, it was decided that BBI would no longer design and manufacture evening dresses. 13131 would try to sell the remaining inventory on hand by discounting its prices. Since this portion of the clothing line would no longer continue, it was determined that losses on sales of evening dresses would be reported as part of discontinued operations for the year ending 31 December 20X8. Total losses from evening dress sales amounted to $600,000 ($408,000 after tax) in 20X8. Luckily, the equipment used to design and manufacture evening dresses is also used for other products and therefore is still in use. BBI is currently taking legal action against a retail company with a chain of maternity stores that is based in the United States. BB! filed a lawsuit on 31 October 20X8 when it was discovered that the recently opened U.S. retail chain was operating under the same name. BBI is demanding that its name no longer be used and the defendant pay $15,000 in damages. BSI's lawyers are very confident that they will be successful with this claim. For this reason, BBI has recorded a gain of $15,000 in its 20X8 financial statements. The lawsuit is expected to be settled in late 20X9.
BBI reports the following in late 20X8 draft financial statements:
Income from continuing operations  $78,000(2007-$85,00)
Total assets - $ 450,000
Total liabilities - $ 300,000
You are the auditor for BBL. It is now February 20X9 and you are preparing for a meeting with BBI’s manager of financial reporting. At the meeting, you plan to discuss contentious accounting issues identified and any concerns you have regarding the 20X8 financial statements. BBI follows Canadian ASPE.

Required:
Prepare detailed notes to use in your meeting with BBI’s manager of financial reporting you must evaluate valid financial reporting alternatives and establish adequate support for your conclusions.



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  • CreatedFebruary 17, 2015
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