American Broadcasting Company (ABC), which is a publicly listed company, has just hired you (Student) as a

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Question:

American Broadcasting Company (ABC), which is a publicly listed company, has just hired you (Student) as a consultant. Your client is Sally Chen, the assistant controller for the company and you have the following conversation with her.

Sally: Welcome to ABC. As you probably know, we just purchased a cable TV company that was in financial difficulty. We did the acquisition using additional bank debt and because of this, our bank, as a condition for obtaining this financing requires us to maintain our current ratio (current assets divided by current liabilities) above a certain value. We need you to advise us on how to account for some of the transactions that our cable TV operations may enter into.

You: No problem. What transactions are you concerned about?

Sally: Well, when a customer signs a one-year contract for cable services, they will pay us say $80 per month but they can also pay us $900 upfront for same service. We are not sure how these two payment arrangements affect the way we record revenue for these services. Also in addition to the service fees that we earn which I just mentioned, we charge customers a connection fee of $25 when they sign up and it costs us $20 to connect the service.

You: OK. Did I hear that you are launching a new discount program?

Sally: Yes, starting next month, we are going to launch a New Subscriber Package where you can get two months of free cable service on a trial basis. If you like what we have to offer, you can sign up for a 10-month contract at the end of the two-month trial period and pay us $72 per month for the next 10 months. Again, we would incur a $20 connection cost at the beginning of the two-month trial but in this case, we would not charge a customer any fee for the connection. There is no upfront one-time payment option under this program.

You: And is the company going to sell internet services as well?

Sally: Yes, but this is only to corporate clients. In fact, we also sell cloud services to them and provide them with a license to use software on our servers. They sign a one-year contract to obtain the license to use our software and then they pay us monthly based on the agreed contract price. About 10% of the value of the contract relates to compensation for us regarding maintenance and software upgrades that we do for the customer during the year covered by the contract. Neither of these services are are available independently.

You: Thanks for explaining this. Is there anything else I should know?

Sally: Well to be honest I just received some legal documents today. One of our corporate customers is suing ABC for breach of contract but we will not have a chance to negotiate a settlement for this until our next fiscal year. Although we are prepared to settle this lawsuit by paying damages of $500,000, there is a very slim chance that we can get this down to $400,000 but we will not know until negotiations begin. I would like to disclose the lawsuit in the current year and then record the damages next year once we have greater certainty of the final amount involved.

You: Is that all?

Sally: There is one final issue, but it is not a financial manner. We recently had a vice-president hire his brother for a senior management position here at ABC. The brother does have experience and would be considered for the role, however, a number of other employees have an issue with the optics of the situation and it is creating some morale issues. To be fair to our vice-president, we actually do not have a nepotism policy, so there was no policy violation that occurred. We are not sure how to handle the situation, as the brother is due to start working here on Monday. Some insight into what to do here would be great!

Sally: So, all I need from you is a memo explaining to me how to account for all of these transactions as we have not recoded anything in relation to them. Also, if you could give us some advice on the nepotism hiring as that is a big deal around the office as well.

Required:

Prepare the memo requested by Sally – use point form and write concisely. Begin your response on this page.