Reference no: EM132724922

Question - Top Quality Food Ltd. (TQF) is a medium-sized private food-processing company founded more than twenty years ago by Ray Smith. TQF is located in Newmarket and mainly provides frozen chicken, pork, and beef products to grocery stores and restaurants in the greater Toronto area and its surroundings. Ray is the CEO and sole common shareholder of the company. In recent decades, consumers pursue healthy lifestyle and tend to eat less meat but more fruits and vegetables. In noticing this market trend, Ray decided to add a new product line to produce frozen fruits. Ray approached Meridian Credit Union in early 2020 for a long-term loan to finance its planned new product line. After carefully reviewing TQF's business plan, Meridian agreed to finance the purchase of new equipments for the new product line in processing and packaging frozen fruits, and the new equipment will be used as the loan collateral. Meridian also imposes a debt to equity ratio of not more than 1 to 1 for the loan, and requires audited financial statements from TQF every year. Ray agreed to satisfy all of Meridian's requests, and in the fall of 2020, he hired Sherman LLP as the auditor for TQF. As a staff accountant of Sherman, your supervisor asked you to take care of the TQF account. December 31, 2020 will be the first year end which TQF will be audited. TQF's earnings in recent years have averaged $ 300,000. In a recent meeting with Ray, he asked you to comment on the relevant accounting policies regarding the transactions which you have noted below:

Additional information: At the end of 2020, TQF issued preferred shares in the amount of $ 15,000 to one key employee, Gary Roberts. The shares have a rate of return of 4% per annum and are cumulative, redeemable and retractable in two years' time at face value plus dividends in arrears, if any

1. Ray used the money from issuing preferred share to help finance a $ 120,000 acquisition of common shares in Spring Farm (SF) that produces blueberry, strawberry, peach and cherry. TQF will now own 25% of SF. SF will be a primary supplier of those fruits mentioned above for TQF's new product line. Ray explained: "this vertical integration is critical for the growth of our business! Otherwise I will have to pay about $ 10,000 more if I buy from other suppliers. This deal is a big help with cash flow, and it also helps us to secure the supply which can be volatile depending on the weather.

2. TQF has been depreciating equipment over a 10 year life on a straight line basis. An equipment, which costs $ 24,000, was purchased on January 1, 2016 and has an estimated residual value of $ 6,000. On the basis of experience since acquisition, management has decided in 2020 to depreciate it over an extended total life of 14 years with no change in the estimated residual value. The change is to be effective on January 1, 2020.

3. TQF has not declared any dividends this year. Ray usually takes out a mix of salary and common share dividends as recommended by his tax advisor. TQF plans to declare the common dividend soon to Ray but it plans to wait until all the dividends on the preferred shares are settled when they come due in two years' time.

Required - Write a report that addresses Ray's concerns.