Assignment:
You are an accountant working at Hasfa & Co. George Maranzan, a partner in your firm, leaves you the following voicemail message:
"The scheduling manager tells me you have some time available. We have recently been advised that management of Back-I-Up Corporation (BIUC) has received an offer from Ventura Capital partners to sell 100% of all issued an outstanding common shares. I have a meeting with management in two weeks regarding this issue, and I havent had much time to think about this engagement.
I have prepared some background informationon the company for you to review, including background information on the client (Exhibit 1), the company's most recent internal financial statements (Exhibit11), and the proposed share purchase agreement.
Can you please prepare a report .
Required:I am glad that you have some time available!"
Prepare the report for George
Exhibit 1 - Background Information
Back-It-Up Corporation (BIUC) duplicates videotapes, DVD's CD's, and all forms of electronic files from master copies provided by its clients. The company started operations in 2000 in the basement of the home of part-owner, Samantha Arthurs. Sales increased quickly, and within one year of starting operations the company moved into rented space in downtown Toronto.The market that BIUC currently serves is mainly large companies that require training programs, corporate messages, and so on.
The company is owned equally by Samantha Arthurs, Grant MacArthur, and Ashley Carvalho. Samatha started the venture and has always managed the sales function. In order to keep the company growing, she brought in Grant and Ashley as equal shareholders. Grant and Ashley each paid $30,000 for one third of Samantha's shares.
Grant is a good administrator and handles the accounting functions of the company. Samantha's skills are mainly in sales. Ashley looks after the production end and stays abreast of changes in technology.
BIUC has an October 31 fiscal year end.
Exhibit 11 - Internal Financial Statements
Statement of Financial Position
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As at October 31 (unaudited)
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2017
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2016
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Assets
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Current
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Cash
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$ 151,764
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$ 160,502
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Accounts Receivable
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$ 334,894
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$ 411,760
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Inventory
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$ 86,800
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$ 124,200
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Prepaid Insurance
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$ 4,720
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$ 2,060
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$ 578,178
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$ 698,522
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Capital assets (note 1)
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$ 661,897
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$ 417,158
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Future Income Tax (note 2)
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$ 35,000
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$ 35,000
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Long-Term note receivable
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$ 20,000
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$ -
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$ 1,295,075
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$ 1,150,680
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Liabilities and Shareholders' equity
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Current
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Accounts payable
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$ 158,318
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$ 130,176
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Bank Loan - current portion
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$ 41,998
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$ 72,000
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Income tax payable
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$ 44,609
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$ 92,720
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$ 244,925
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$ 295,096
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Long-term bank loan (note 3)
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$ 35,334
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$ 77,334
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Due to shareholders
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$ 58,100
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$ 53,100
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Common Shares
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$ 1,200
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$ 1,200
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Preferred Shares
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$ 20,000
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$ 20,000
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Contributed surplus
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$ 4,000
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$ -
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Retained earnings
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$ 931,516
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$ 703,950
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$ 956,716
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$ 725,150
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$ 1,295,075
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$ 1,150,880
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Statement of Income
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For the year ended October 31 (unaudited)
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2017
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2016
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Sales
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$ 2,531,760
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$ 2,221,720
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Cost of Sales
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Opening Inventory
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$ 124,400
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$ 26,860
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Purchases - Materials
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$ 1,018,972
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$ 959,138
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- Wages
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$ 289,663
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$ 219,416
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Total
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$ 1,433,035
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$ 1,205,414
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Closing Inventory
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$ (86,800)
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$ (124,400)
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$ 1,346,235
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$ 1,081,014
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$ 1,185,525
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$ 1,140,706
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Expenses
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Commissions
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$ 199,372
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$ 174,957
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Depreciation
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$ 127,684
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$ 104,796
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Managaement Salaries and Benefits
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$ 110,448
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$ 110,040
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Management Fees
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$ 109,600
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$ 112,600
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Rent
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$ 75,840
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$ 74,020
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Office and general expenses
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$ 48,723
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$ 46,877
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Advertising and promotion
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$ 37,585
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$ 31,284
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Repairs and Maintenance
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$ 27,173
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$ 24,686
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Automobile and travel
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$ 26,326
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$ 22,782
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Bad Debt
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$ 15,596
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$ 21,188
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Interest
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$ 16,864
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$ 39,320
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Computer system installation
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$ 13,760
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$ -
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Telephone
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$ 13,458
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$ 10,510
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Insurance
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$ 10,864
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$ 10,214
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Legal and Accounting
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$ 8,083
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$ 3,414
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Lease expense
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$ 18,143
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$ -
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$ 859,519
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$ 786,688
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Operating Income
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$ 326,006
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$ 354,018
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Gain on sale of equipment
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$ 4,560
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$ -
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Income before taxes
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$ 330,566
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$ 354,018
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Provision for income taxes
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$ 99,000
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$ 112,000
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Net income
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$ 231,566
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$ 242,018
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Opening balance - retained earnings
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$ 703,950
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$ 465,932
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Dividend on preferred shares
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$ (4,000)
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$ (4,000)
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Closing balance - retained earnings
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$ 931,516
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$ 703,950
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Notes to the Financial Statements
1. Capital Assets
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2017
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2016
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Cost
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Accumulated Depreciation
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Net Book Value
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Net Book Value
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Furniture and fixtures
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$ 23,434
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$ 12,418
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$ 11,016
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$ 13,770
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Computer Equipment
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$ 50,842
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$ 12,835
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$ 38,007
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$ 18,421
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Leasehold Improvements
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$ 19,404
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$ 19,404
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$ -
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$ 2,842
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$ 40,352
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$ 27,985
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$ 12,367
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$ 17,667
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Production Equipment
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$ 931,074
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$ 330,567
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$ 600,507
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$ 364,458
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$ 1,065,106
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$ 403,209
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$ 661,897
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$ 417,158
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2. Future Income Tax
A future tax asset has been recorded for non-capital losses carryforward. The losses were incurred during a bad year in fiscal 2015. BIUC expects strong future profits to be able to generate taxable income to fully utilize the tax losses. The owners decided not to use the tax losses in 2017 or 2016 fiscal years because they expect their marginal tax rate to increase significantly in the near future due to significant growth in income.
3. Bank Loan
A small business bank loan and line of credit for $200,000 (presently unused) are secured by a general security agreement, a registered general assignment of book debts, and a chattel mortgages on duplication equipment. Principle repayments on the small business loan are due as follows during the years ended Oct 31:
2018 $ 41,998
2019 $ 20,034
2020 $ 11,700
2021 $ 3,600
Interest on the small business bank loan is paid at 12% on the outstanding monthly balances. Interest on the line of credit is calculated at prime plus 1.5% on outstanding monthly balances.
Issues to address:
Identification and Analysis of Issues
Issue 1: Accounting for the Lease
Issue 2: Preferred Shares
Issue 3: Post-retirement benefits
Issue 4: Long-term Note Receivable
Issue 5: Future Tax Liability
2. Recommendation on how to address issues
a. Provides appropriate recommendation given the case facts and analysis completed