Reference no: EM133146721
Question - Polluter Corp. (PC), an SEC registrant, operates three manufacturing facilities in the United States. PC manufactures various household cleaning products at each facility, which are sold to retail customers. The U.S. government granted PC emission allowances ("EAs") of varying vintage years (i.e., the years in which the allowance may be used) to be used between 2015 and 2035. Upon receipt of the EAs, PC recorded the EAs as intangible assets with a cost basis of zero, in accordance with The Federal Energy Regulatory Commission ("FERC") accounting guidance for EAs. The company's fiscal year ends on December 31.
As background, in an effort to control or reduce the emission of pollutants and greenhouse gases, governing bodies typically issue rights or EAs to entities to emit a specified level of pollutants. Each individual EA has a vintage year designation.
Entities can choose to buy EAs from, and sell EAs to, other entities. Such transactions are typically initiated through a broker. At the end of a compliance period, participating entities are required to either (1) deliver to the governing bodies EAs sufficient to offset the entity's actual emissions or (2) pay a fine.
PC currently emits a significant amount of greenhouse gases because of its antiquated manufacturing facilities. PC plans to upgrade its facilities in 2024, which will decrease greenhouse gas emissions to a very low level. On the basis of the timing of the upgrade, PC currently anticipates a need for additional EAs in fiscal years 2020-2024. However, upon completion of the upgrade, PC believes it will have excess EAs in fiscal years subsequent to 2024 because of reduced emissions as a result of the upgrade.
PC currently has forecasted the updates to its facilities will cost approximately $15 million. As PC operates in a capital-intensive industry, analysts and investors focus on a number of important ratios and measures, including working capital, capital expenditures, cash flows from operations, and free cash flow. As a result, the Board of Directors and management provide forward-looking guidance on these ratios and measures and expend great effort managing these results in light of PC's operational needs.
PC entered into the following two separate transactions in fiscal year 2020, which will impact PC's results as presented in the statement of cash flows, which PC prepares under the indirect method.
1. To meet its need for additional EAs in fiscal years 2020-2024, on April 2, 2020, PC spent $3 million to purchase EAs with a vintage year of 2022 from Clean Air Corp.
2. In an effort to offset the costs of the April 2, 2020, purchase of 2022 EAs, PC sold EAs with a vintage year of 2026 to Dirty Chemical Corp. for $2 million.
Required - Explain the appropriate classification of the two EA transactions with respect to the Statement of Cash Flows. PC has reporting requirements under U.S. GAAP and IFRS, so address both in your response to her. Show the journal entries of two transactions under GAAP and IFRA separately. You should include an alternative analysis with specifics about why you chose and excluded alternatives.