You, CPA, was recently hired as the controller for Tools 4U Inc. (T4U), a company that manufactures
Question:
You, CPA, was recently hired as the controller for Tools 4U Inc. (T4U), a company that manufactures tools used for heavy construction and the do-it-yourself home improvement consumer needs. The company prides itself on producing high-quality tools from sustainable and recycle product sources.
Your first meeting was with Naomi Osaka, CFO, who introduced you to the finance and accounting team and provided you details on some accounting issues that were partially completed and left outstanding from the previous controller (Appendix I). She would like you to provide an analysis of these issues and a recommendation of the appropriate accounting in preparation for the year-end December 31, 2022, financial statements. T4U reports its financial statements in accordance with Accounting Standards for Private Enterprises (ASPE).
Naomi would like to approach the bank next month to obtain additional financing and will be using the financial statements as part of the application. She stressed that the 2022 financial statements will be audited and would like next year’s audit to require no adjustments to the financial statements. Naomi realizes that there are numerous internal control issues, but agreed that they should be addressed in a separate memo.
Required
Provide Naomi with a memo discussing the accounting issues.
Consumer tool segment
Restructuring during the fiscal year under audit led to the decision to discontinue the consumer tool segment, which is a major line of business, on November 20. Relevant information about this decision is as follows:
• The segment incurred a loss of $283,500 for the year. • Estimated costs to dispose of the segment are $300,000. A broker has been hired for the transaction and the assets of the segment are currently advertised at prices that reflect T4U’s best estimate of fair value. • At the time the board decided to dispose of the segment, the fair value of its property, plant, and equipment was estimated to be $7 million and the carrying value of PP&E was $7.9 million. When this analysis was performed, management was surprised to find that many capital asset acquisitions over the past couple of years were not prudent.
• Some assets had been purchased at excessive prices and others had been utilized far below capacity. • Carrying value of current assets and all liabilities were equal to fair value. Fair value estimates did not change between November 20 and December 31. • The income tax rate for T4U is 30%.
T4U wrote down the property, plant, and equipment to $7,000,000 in the 2022 financial statements. The $900,000 loss is reported under “other income and expenses” on the income statement.
Fire damage
On February 1, 2023, a fire broke out in one of T4U’s manufacturing buildings. By the time the fire was contained, there was significant property damage and some manufacturing assets were unrecognizable. T4U’s management has spent considerable time trying to figure out what was lost to quantify and support a claim for insurance purposes.
Nothing has been reflected in the 2022 financial statements because the event occurred well after year-end.
Depreciation
During December, when depreciation expense was being calculated, it was discovered that several manufacturing assets had been coded to the wrong general ledger account by the accounts payable clerk in the prior fiscal year. The assets had a total cost of $100,000 and, based on being coded as furniture and fixtures, were being depreciated straight-line over 10 years. T4U claims a full year of depreciation in the year of acquisition.
Management recorded a depreciation expense of $30,000 on these assets in 2022 because manufacturing assets are depreciated straight-line over five years at T4U. This means the cumulative depreciation is now $40,000, as required, and the assets are reported at a net book value of $60,000. As changes in depreciation are treated as accounting estimates, the change was made prospectively and there was no need to adjust the prior period's financial statements.
Store Front Sales
T4U has a small storefront/outlet that opened two years ago where customers can come in to pick up last-minute small tools and parts. This is not their main source of revenue. Allison, an accounting clerk manages the storefront. You discovered that she records T4U’s storefront revenue and expenses by reviewing the company’s monthly bank statement in conjunction with canceled cheques. Amounts owed by customers are tracked at the time of delivery on a designated sheet of paper kept by the cash register. As cash is received, the related customer’s balance is reduced. On December 31, 2022, there was a balance of $16,200 still receivable from customers. On December 31, 2021, there was a balance of $11,505.
Allison is the only one who operates the register. She admits that, because she is in too much of a hurry, she sometimes puts the cash in the desk drawer rather than take the time to ring up the sale. Though it was difficult for her to be certain, Allison estimated that transactions worth about $45,000 each year have been handled in this way. Having cash in hand allows her to pay miscellaneous petty expenses that require cash payments. You discovered that sales of $435,575 and $336,667 were reported in 2022 and 2021 respectively.
Forensic Accounting and Fraud Examination
ISBN: 978-0078136665
2nd edition
Authors: William Hopwood, george young, Jay Leiner