BLX Shipping Ltd. is a Canadian company, one of over 500 international shipping lines operating worldwide. BLX had been a privately owned company until recently. However, in 20X2, the company issued 42% of its common shares to the public. The other 58% of BLX shares still are privately held, primarily by four family trusts. In general, the company has been profitable (Exhibit 1), although results in 20X5, the most recent fiscal year, did not meet market expectations and share price declined from

$ 20 to $ 14. The company operates 32 container vessels with total capacity of 170,000teu (a measurement of size used in the industry; the equivalent of a 20- foot shipping container). The container shipping industry has experienced compound growth (in volume) of about 9% over the last 20 years, several times higher than the increase in global gross domestic product.

However, the industry is highly price competitive as well as cyclical. You have a friend who views the lower market price of BLX shares as a potential growth opportunity. Your friend knows that you are studying accounting and has asked you to consider two note disclosures in BLX’s 20X5 financial statements that she finds curious:

Revenue and costs directly attributable to loaded container movements are recognized when delivery of the container is completed. A substantial element of the cost of delivery of each container to its ultimate destination is estimated and accrued because there can be delays in determining the final charges from agents and sup-pliers throughout the world. Consequently, significant accruals are outstanding at each financial period- end. BLX has considerable experience in estimating costs of transporting containers.

However, your friend also notes that in the past year, BLX restated 20X4 and prior years’ earnings by $ 41 million ($ 12 million related to prior years, and $ 29 million related to 20X4) primarily because costs were understated. According to the company’s annual report: The errors came to light during the implementation of a new financial accounting system and resulted from deficiencies in certain accounting and related business processes during a period of unprecedented increases in container shipping costs and adverse exchange rates. After these systemic deficiencies were brought to light, the CFO left the company and was replaced.

Your friend wonders whether the company really has the experience to estimate the costs related to a shipment when the restatement implies otherwise. Accordingly, she has asked you to evaluate the two alternatives: recording revenue when the container is delivered versus revenue recognition at a later time when the costs are known with certainty. Shipping revenue is found in Exhibit 1.

Your friend has asked you to evaluate the three alternative accounting policies as applied to BLX:
(1) Capitalization and amortization versus
(2) Immediate expensing versus
(3) Periodic accrual in advance. Your evaluation should include a review of the appropriate accounting concepts and the impact on financial statement users. Costs relating to dry- docking expenditures are found in Exhibit 1.

Required:
Prepare an appropriateanalysis.

Transcribed Image Text:

EXHIBIT 1 BLX CONTAINER SHIPPING LTD (amounts in millions Year Total revenue Revenue accrued at year-end 316 148 244 $95 152 20X5 20X420X3 20X2 20X1 $1,100 $939 $807 795 564 $ 27.2 $30.6 $22.8 $417 $22.4 Net income Costs associated with accrued revenue-as corrected in 20X4 restatement Dry-docking expenditures Amortization of dry-docking $95 $60 $86$36 $53 $30 $10 $2 $%24$12 $14 $18 $16 $17 $15 expenditures As restated As restated; prior to public offering when company was private. Note: Ignore income taxes.