Peak Perceptions Ltd.
Peak Perceptions Ltd. (PPL) provides "technology solutions" to
manufacturing companies. PPL is a wholly owned subsidiary of Elevation Technologies Inc. (Elevation), a privately owned conglomerate. In 2016 PPL was performing poorly and Elevation considered selling the company for the best offer. As a last resort Elevation hired turnaround specialist Kendal Wilson to more effectively manage and salvage PPL. Ms. Wilson's employment contract specifies that in addition to an annual salary she would receive a $1 million cash bonus after the end of the 2019 fiscal year if PPL meets a number of performance goals over the 2011 to 2013 period. For 2017 and 2018 PPL achieved the goals. To meet the performance goals for 2019 PPL must report net income in excess of $20 million.
It's now January 25, 2020. PPL's financial statements for the year ended December 31, 2019 have been received at Elevation's corporate offices. PPL's net income for 2019 is $20,550,000. Elevation's CFO has examined the financial statements and is satisfied with most aspects of them but is concerned with the reporting of some transactions and economic events. The issues of concern are described below:
1. On May 30, 2019 the company made a payment of $250,000 to a computer hacker who obtained access to the computer code to PPL's proprietary software that is used to produce some of PPL's products. The hacker had given the company ten days to pay or she would sell the information to a competitor. Management believed that if the information was obtained by a competitor it would have significant negative consequences for the company. PPL has capitalized the amount of the payment and is amortizing it over the remaining life of the related assets, which is about four years.
2. PPL has always shut down for one week in late December for routine maintenance of the company's equipment. The annual maintenance is essential to ensure that the equipment can meet the precise specifications of customers. For the past three years, maintenance has been completed by the end of December. The annual maintenance originally scheduled for December 2019 was delayed until the first week of January 2020 because of scheduling problems with the company that does the maintenance and because PPL had a number of contracts it wanted to complete by the end of December. The last maintenance was done in December 2018. PPL paid $425,000 for the January 2020 maintenance work. The amount was paid in mid-January.
3. In October 2019 PPL settled a lawsuit by an employee from an incident that occurred in 2015. PPL agreed to pay the employee $350,000 and the payment was made on November 12, 2019. PPL accounted for the settlement and payment by crediting cash and debiting retained earnings for $350,000. It was explained that since payment pertained to an incident in 2015, income in 2019 shouldn't be affected.
The CFO has asked you, an accountant in the finance department, to prepare report evaluating the issues. Ms. Wilson has already called the CFO to arrange a meeting to discuss the financial statements and the payment of the bonus. The CFO wants your report to explain the problem in each issue, identify reasonable alternatives, and provide full support for your recommendations.
Prepare the report requested by the CFO.
You should prepare written report. Your report should consider responses to the following questions:
1. What is your role? Who are you reporting to and what are their objectives? How is that person's objectives affected by accounting information?
2. Who prepared the financial statements? What are the objectives of the preparer? How do the financial statements affect the objectives of the preparer? How do you think the person preparing the financial statements will approach preparation of the statements? What are the terms of the arrangement that make accounting information important in this situation? What conflicts, if any, are there between the parties? Explain the conflicts
3. Are there any constraints you must adhere to? Explain why.
4. For each transaction: identify issue, what is the criteria, recommendation and accounting entry.
5. Quantify the overall impact of your recommendations on the parties and make an overall conclusion about how you have been able to serve the needs of your client.