Reference no: EM132218493
Question: Part A: Global Healthcare Pte Ltd (GHâ€) is a medical device manufacturer and distributor. The company launched an average of one innovative product each year and has experienced phenomenal growth from its inception in 2010 till 2016.
In 2017, the company experienced declining sales due to slowdown in its product development and emergence of a new competition. These were worsened by an exodus of a few scientists. The company also has to cope with rising costs and lower margins.
Heather, the CEO of the company, has approached you to invest in GH and presented to you an aggressive expansion plan.
You perused through the unaudited management accounts for the year ended 30 June 2018 and obtained the following information from Heather as part of your investment due diligence. You noted the following:
(a) The useful life for a laboratory equipment was increased from 5 years to 8 years with effect from 1 July 2017. Details relating to this laboratory equipment are:
|
Cost of laboratory equipment (Acquired on 1 July 2015)
|
$450,000
|
|
Residual value
|
$45,000
|
|
Initial useful life
|
5 years (in total)
|
|
Revised useful life (as at 1 July 2017)
|
8 years (in total)
|
|
Depreciation method
|
Straight-line
|
Depreciation for the year ended 30 June 2018 was correctly computed based on the revised useful life and has been recorded in the unaudited management accounts.
In response, Heather said: I have asked my accountant to extend the useful life. With the expected lower usage, the lifespan of the laboratory equipment can easily be prolonged.â€
Your research indicated that the industry practice for the useful life for such laboratory equipment is 5 years.
(b) The company advertised in a medical journal in January 2018. This was recorded as:
|
Dr Prepaid Advertising
|
$30,000
|
|
Cr Cash
|
$30,000
|
Heather justified: The benefits of advertising are not immediate but long term, at least for the next 3 years.â€
(c) The company allows its clients to pay by credit. There was objective evidence that a receivable of $70,000 owed by a debtor, FlybyNite, would most probably be uncollectible as efforts to contact the debtor have been futile in the past one year. The rest of the accounts receivables were reviewed collectively and the results indicated that an estimated 10% of these accounts would not be collectible
Heather justified: We will track FlybyNite down. Customers are difficult to come by and we are be mindful not to be too forceful in our debt collection. The ultimate collection from FlybyNite and all other customers is a matter of time.â€
(d) Your review of the inventory listing noted a batch of equipment that the company is no longer selling. The equipment amounted to $50,000 in the companyâ€TMs books.
Heather explained: There is an export price of $10,000 for the equipment to our distributors in India, but I am sure we can find a buyer and sell the equipment at a profit. We just need to be patient.â€
(e) On 31 January 2018, the company bought and paid $24,000 for a 2-year fire insurance. This was recorded as follows and there were no subsequent entries:
|
Dr Prepaid Insurance
|
$24,000
|
|
Cr Cash
|
$24,000
|
Heather explained: Insurance claims in our industry are normal. In fact, the last time we made a claim against the insurance company, we enjoyed the benefit of having our old equipment replaced with new ones. It is therefore prudent to recognize the insurance expense later, just in case there is a claim.â€
(f) The company recorded the 13th-month bonus which totaled $60,000 for the year ended 30 June 2018 in July 2018. Heather explained that the employment contracts with its employees do not cover bonus although the company has been paying its employees (who worked at least 12 months) a 13th-month bonus in July, the following financial year.
(g) The company deferred the June 2018 maintenance on the equipment (by an external contractor) to July 2018. The routine monthly maintenance on the equipment costs the company $12,000 every month.
Heather explained: As the equipment were working perfectly fine, I decided to give the June 2018 maintenance a miss to save some costs.â€
(h) The company delayed the delivery and recording of packing materials worth $35,000 until July 2018.
Heather explained: We changed the design of our new packaging in the last quarter and I instructed my printing company to deliver the new packing materials in the first week of July 2018, after our June peak season.â€
(i) A equipment was damaged in early June 2018 and the repair cost is estimated to be $25,000. The company had not repaired the equipment.
Heather explained: The equipment was purchased 4 years ago for $100,000 and the current carrying amount is $20,000. The repair bill is more than what the equipment is worth now. I would rather scrap it and replace it with a new one.â€
(j)The costs of staff training for the year ended 30 June 2018 which amounted to $20,000 was recorded as training expense by the previous accountant. However, Heather argued that the staff training was incurred to train the staff to use the new equipment bought in July 2018 and hence should be capitalized.
You went on to examine the trial balance as at 30 June 2018 as follows:
Debit Credit
$ $
Cash 285,000
Accounts receivable 270,000
Other receivables 108,000
Inventories 213,000
Prepaid advertising 30,000
Prepaid insurance 24,000
Equipment 1,579,500
Accumulated depreciation - Equipment 490,500
Accounts payable 139,500
Other payables 83,000
Long-term loan 337,500
Share capital 337,500
Retained earnings 1,993,000
Sales 1,757,000
Cost of sales 886,500
Staff costs 558,000
Rental expense 515,000
Depreciation expense 292,500
Utilities expense 202,500
Interest expense 96,000
Miscellaneous expense 78,000
5,138,000 5,138,000
Required: (1) Critically discuss the accounting principles and qualitative characteristics of useful financial information that were violated in the above case. Explain the appropriate accounting treatments that should be used.
(2) Working from the violations you have identified in (a), prepare all the necessary adjusting journal entries.