Reference no: EM133828944

Financial Reporting

Assessment - Statement of Advice

Type - Provision of advice on accounting issues

Task
You are required to prepare a business letter to address key accounting issues in regards to an acquisition analysis of a wholly owned subsidiary and various intragroup transactions. Also, provide advice on accounting for a foreign currency transaction.

Assessment Description

Assume that you are a graduate accountant working for Wolfram Hart, a public accounting firm situated at 388 Ann Street, Brisbane, QLD 4000. The Manager of your firm, Ms. Lily Morgan, has asked you to prepare a statement of advice in response to an email received from a client, Maddie Shannon, the Managing Director of Tottoys Ltd, raising several accounting issues. Please refer to the email on the next page.
The maximum length for the body of the letter is 2,000 words. You should address all the technical issues and discussion in your advice, followed by a Reference List.

Part A: Technical component - This mark covers the technical content of your advice and the explanation of each of the issues, the calculations and journal entries (where applicable).
Part B: Communication Skills - This mark covers the generic skills of writing; layout, clear meaning, structure and organisation, appropriate tone and grammar, spelling, and punctuation throughout the whole assignment. It also includes referencing.

Case Study Background
Tottoys Ltd is a dynamic toy company that specialises in creating engaging and educational toys for preschool-aged children. With origins as a family owned business in 1924, the company focuses on producing high-quality products that promote learning, creativity, and imaginative play. It's product line includes a variety of toys, from soft plush figures, interactive learning games, to jungle gyms and eco-friendly wooden puzzles, all designed to support early childhood development. Listed on the ASX, with shares trading at $1.60, Tottoys Ltd has steadily established itself as the leading Australian provider of innovative, safe, and enjoyable toys that enrich the lives of pre-schoolers. Complete your assignment now!

The company's incremental borrowing rate is 6%, and its corporate tax rate is 30%.

Case Study

Draft a business letter in reply and make sure you reference any relevant sources relating to your advice, for example, AASBs, Corporations Act, and relevant sources. See the email below.
Dear Lily,

I am contacting you for help as our Chief Accountant is currently on long service leave, and we only have a new Trainee Accountant handling the journal entries. I need guidance on the accounting implications of our recent acquisition of Byte Ltd, as I'll be presenting the consolidated financial statements to the Board of Directors. Also, I need to be prepared to answer any questions they might have regarding the accounts for the year ended 30 June 2024. Since I don't have an accounting background, I would greatly appreciate it if you could explain the relevant principles and concepts in simple, easy to understand terms.

As you know, we have held a strategic investment in Byte Ltd since its inception in 2010, acquiring a 10% stake for $15,000 at the time. Over the years, our investment has appreciated significantly, with the fair value of our stake rising to $22,500 as of July 1, 2023. This investment has been instrumental in expanding our distribution network for our products, allowing us to reach broader markets through Byte's established channels.

On July 1, 2023, we completed the acquisition of the remaining 90% of Byte Ltd.'s issued shares through a scheme of arrangement, structured on an ex-dividend basis. Under the terms of the acquisition agreement, shareholders of Byte Ltd. received $2.20 in cash per share and one Tottoys Ltd. share for every three ordinary shares they held in Byte. The cash payment was designed to be paid in two equal instalments: half of the amount was paid at the acquisition date, with the balance on July 1, 2024.

To ensure a sound and mutually beneficial acquisition, we engaged independent experts to conduct due diligence and provide valuations of Byte Ltd.'s assets and liabilities. These expert services came at a cost of $23,000, reflecting our commitment to a thorough and viable business combination that aligns with our strategic growth objectives. This careful approach not only supports our long-term interests but also reinforces our confidence in Byte's potential to enhance our operational scope and market presence.

The draft statements of financial position of Byte Ltd at the date of acquisition was as follows:

Byte Ltd ($)
Cash 20,000
Accounts receivable (net) 56,000
Inventories 29,000
Land 72,000
Plant and equipment 127,000
Accumulated depreciation -plant and equipment (40,000)
Goodwill 8,000
272,000
Accounts payable 29,000
Dividend payable 6,000
Other liabilities 2,000
Share capital ($1 per share) 90,000
Retained earnings 145,000
272,000

According to the independent experts, all the assets of Byte Ltd were recorded at fair value except for inventories with a fair value of $38,000. There was also some equipment with a fair value of $34,000, which was recorded at its carrying amount of $27,000. This equipment which originally cost $45,000 was being depreciated on a straight line basis over a 10 year period. Due to rapid changes in 3D printing technology, it was estimated that the useful life of the equipment was only a further two years. Additionally, it was found that the company had disclosed by way of note a 20 year patent for its "QuantumBloxTM" which consists of modular, magnetic building blocks that light up and change colour based on how they are connected, teaching basics about circuits and energy. Tottoys Ltd placed a fair value of $20,000 on the patent.
Byte Ltd also disclosed as a note in their accounts for the year ended 30 June 2023, that a number of salaried team members had not been paid in full compliance with the entity's obligations under the General Retail Industry Award (GRIA). On 10th June 2023, The Fair Work Ombudsman commenced legal proceedings against Byte Ltd seeking orders in relation to alleged contraventions of the Fair Work Act and for further compensation of affected salaried team members. The trial is intended to determine issues of liability. The outcome and total costs associated with the proceedings are uncertain. The independent experts estimate that a provision of $25,000 to settle any remaining obligations would be required. The case has yet to be settled.
Our Trainee Accountant prepared an acquisition analysis and determined goodwill of $37,000 (calculated as $198,000 cash paid minus the subsidiary's equity acquired of $235,000) to be reported in the consolidated financial statements. Can you confirm that this calculation of goodwill is accurate and provide me with any necessary journal entries to prepare consolidated financial statements as at 30 June 2024? The directors are pleased with the recognition of our established reputation and customer loyalty through the recognition of goodwill. Our loyal customers purchased 80% all existing inventories of Byte Ltd within the first week following the acquisition generating huge profits. The remaining slow moving inventory was donated to a children's hospital in October 2023 generating further goodwill within the community.

However, some of the members of the Board of Directors feel that this goodwill should not be recognised as it cannot be sold, transferred, and has no real value. How should I respond to these comments?

Prior to going on long service leave, The Chief Accountant identified two inter-company transactions for further consideration when preparing the consolidated accounts. Please help me with any necessary adjusting journal entries required for the preparation of consolidated financial statements and explanations for them. Specific details of these transactions are shown below:

On the 15th of June, 2024, we sold some of our fantasy hero figures with a cost of
$27,000 to Byte Ltd on credit for $39,000, generating a profit of $12,000. By the end of the year, Byte Ltd had sold 70% of these goods to external parties using their distribution networks with a 25% markup. The $12,000 profit has already been recognised in our financial statements, improving our results. Is there anything else we need to do? What journal entries, if any, should be recorded?
On 1st of January 2024, Tottoys Ltd sold jungle gym equipment to Byte Ltd for
$11,000 in cash. The equipment originally cost Tottoys Ltd $7,000 and was classified as inventory. Byte Ltd installed the equipment outdoors at one of its childcare centre's, incurring an additional installation cost of $1,500. Byte Ltd depreciates such equipment at a rate of 10% per annum based on cost. Please explain what I need to do with this transaction and show any journal entries necessary.
The final issue that we seek your assistance with relates to a foreign currency transaction. As part of our recent expansion, we recognised the need for an offshore manufacturing plant to support our operations. This plant will feature custom-designed rotational molding machines, specifically designed to enhance the production of large plastic toys such as playhouses, slides, and playground equipment. To finance the project, we secured a loan of USD 200,000 from Bank of America on 20 July 2023 at an interest rate of 6% per annum. These funds were all used to acquire the necessary components for constructing the manufacturing plant. On the same date, we entered into a binding agreement with an American construction company to help construct this plant using these components according to our specifications. As part of the agreement, we retained the right to inspect and approve the plant throughout its construction to ensure it adheres to our precise requirements. The plant was completed on 20 May 2024, with an additional USD 50,000 spent to finalise its construction. This plant will enable us to meet customer needs over the next decade. Complete your assignment now!

We have not yet recorded any journal entries for these transactions and seek your guidance on the appropriate accounting procedures. Could you please explain the steps required to accurately record these transactions and provide detailed explanations for each journal entry?

Please respond by letter (not email) as I would like to present this to the Board. I look forward to hearing from you shortly.
You should address all the technical issues/discussion in the statement of advice, followed by a Reference List.

For each issue, you are expected to:
Identify the facts and accounting topics
Apply the relevant legislation, accounting standard and/or process
Make a recommendation and/or summary of the correct accounting treatment.