Robert's Fishing Charters (RFC) is a small, private business located in St. Catherine's, Ontario. RFC provides fishing charter trips on Lake Ontario ranging in length from four to eight hours per trip. Due to the resurgence of the fresh-water salmon population in the region, the demand for fishing charters in Southern Ontario has grown rapidly in the past few years. RFC caters to all skill levels of fishers, from inexperienced newcomers to hard-core trophy seekers.

Robert (Bob) Walters, the owner of RFC, is looking to expand his business in order to capitalize on the growth in the industry. He has observed several of his competitors grow from a single fishing boat to as many as four boats or more! In response to this growing market, Bob is purchasing a new boat to add to his current fleet of two. In order to finance this purchase, Bob is considering different financing options (see below) and is looking for advice on how to proceed.

Required

Bob has asked you, his lifelong friend and accountant, for a report analyzing the three financing options. He would like your analysis to include both quantitative and qualitative factors leading to a recommendation on what financing option to choose. Bob does not like taking on too much risk and he wants to minimize cash payments, particularly in the first three years, in order to grow his business.

For the purposes of this report, assume the boat purchase takes place on January 1^st of the current year and that RFC has a December 31 year-end.

Financing Options Available

Bob is purchasing the boat from Campion Marine in Kelowna, BC. (FOB shipping point). The cost of the boat is $200,000 plus $10,000 in shipping charges to transport it from Kelowna to St. Catherines (for simplicity, ignore any PST and GST). The boat is expected to have a useful life of 10 years with a salvage value of $15,000 at that time. All boats are depreciated on a straight-line basis.

Bob would first like to know what the journal entry would be for the initial purchase of the boat, assuming financing has been arranged (ie. Bob has the cash available to purchase the boat). Assume shipping charges are paid using cash by the party responsible. Bob would also like to know what the depreciation journal entry will be at the end of the first year.

Financing Option #1 - Long-Term Loan

A loan from the Niagara Credit Union for $200,000. The interest rate on the loan will be 5% with annual payments each December 31^st consisting of an equal amount of principal (ie. $40,000 each year) plus applicable interest expense.

Bob would like to know what the journal entry is for the initial receipt of the loan as well as the first payment on December 31^st of the current year.

Financing Option #2 - Bond Issue

RFC will issue bonds on January 1^st of the current year with a face value of $200,000, a coupon rate of 5% with interest paid semi-annually (July 1 and January 1), and a maturity of 10 years. Bonds with a similar risk profile currently have a yield of 6%.

Bob would like to know what the journal entry is for the issue of the bonds as well as the journal entries for the first interest payment and the year-end adjusting entry. If this option is chosen, RFC will use the effective interest rate method for accounting for the bonds.

Financing Option #3 - Common Shares

RFC will issue 10,000 non-cumulative preferred shares at $20 per share to friends and family. Each share will have a dividend right of $2 per share. Prior to this financing, RFC's share capital consisted of:

Robert and his family 50,000 common shares

Lawrence Walters (Bob's brother) 2,000 cumulative preferred shares, $3 dividend right

All the current shares were issued when the company was formed for five years. No dividends were paid for the prior two years but were paid in full each year before that. Bob is expecting RFC to declare a $50,000 dividend on December 1^st of the current year to be paid on January 15^th next year.

For this financing option, Bob would like to know the following:

i. The journal entry for the issuance of the shares.

ii. A calculation to determine how much of the declared dividend will go to the preferred and common shareholders, assuming the dividend does get declared.

iii. All journal entries related to the dividend that would occur in the current year only, assuming the dividend does get declared. RFC uses separate 'dividends declared' accounts for each type of share (common, preferred), but uses only one 'dividend payable' account.

Report Format

The report should be structured as follows:

1. Identification of your role and the key objectives as identified by the person requesting the memo.

2. Analysis of the purchase of the new boat.

a. Journal entry for the initial purchase of the boat on January 1^st

b. journal entry to record the first year of depreciation of the boat.

3. Analysis of each of the financing alternatives.

a. Long-term loan

i. Pros, cons (min of two each)

ii. Journal entry for receipt of the loan on January 1^st

iii. Journal entry for December 31^st

b. Issue bonds

i. Pros, cons (min of two each)

ii. Journal entry for the issue of the bonds on January 1^st

iii. Journal entries for the first two interest payments

c. Issue common shares

i. Pros, cons (min of two each)

ii. Journal entry for the issuance of the shares on January 1^st

iii. Journal entry for the dividend declaration, assuming that it does, in fact, get declared.

4. Conclusion - Provide a recommendation based on your analysis and the key objectives identified by the person requesting your advice.

Answer rating: 100% (QA)

Part 1 Your role includes acting as financial analyst who analyses the financing options and see whether they are fit for the company or not You will have to 1 look over the financial statements of th... View the full answer