PCS 181 Lecture Notes - Initial Public Offering, Financial Statement

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9 Feb 2013
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Bombadeer Co.
To: the family owning Bombadeer Co.
From: Advisor
Subject: Changes to Company policies due to IPO
With the decision to initiate IPO Bombadeer must accept IFRS for the Train division, the
transition and policy changes as well as the recommendation of applying IFRS
companywide.
Key users and Objectives:
Bombadeer owners (family) along with future shareholders are the primary users of the
case analysis. From the case we know that the company wants to make an initial public
offering and go public with regards to their train division. Going public would mean
performance evaluation is the key objective of the company and for shareholders
stewardship would exist. Whereas the company wants to show profitable and stable
performance the stakeholders are interested in knowing reliable information to base their
investing decisions upon. Lastly management of the company will ponder on the advisory
meeting where Ester & Associates were encouraging BC to “dress up the statements”
The key issue here is the transition to IFRS, with this change policies regarding Inventory,
revenue recognition and depreciation. Furthermore the transition is to be made as soon as
possible since the details of the IPO are already being planned.
Constraints and Facts:
BC must now follow IFRS and the following must be considered for:
Issues:
Revenue Recognition
Under IFRS componentization must be implemented. As such different treatment of
revenue recognition can be utilized for each decision. The Criterion for IFRS revenue
recognition must be met, for the Train division. Since BC product are unique and are
specifically designed for each customers*(assumption) and that BC has reliable estimates
of revenue and cost associated it feasible to recognize Revenue early. It is important to note
that within the Train division order cancellations are rare and collection will not pose any
difficulty or uncertainty. BC should either recognize revenue as early as the order is placed
or upon receiving the deposit of 25%.
While the train division can recognize revenues early the Airplane division does not meet
the IFRS criterion due to the default of payments by customers as well as cancelled orders.
There is much uncertainty involved and it would be best to record revenue upon delivery
or payment by customers.
Depreciation
Although BC is following the CRA directed rate for depreciation it would serve the company
best if straight line amortization was implemented instead. This is a simple method and it
would meet the suggestion of “dressing up” the statements since the change from CRA to
straight line would result in higher net income assuming CRA had placed high rates. Cost of
switching-it is worth it since for IPO you only have the change process once. Rev will be
higher
Inventory
The train division is a stable source of revenue however the Airplane division inventory is
increasing indicating a fall in operations. IT would serve the company well to lease these
airplanes so that they can save on depreciation expense and have a simple accounting for
this division.
Recommendations
Revenue should be recognized early for the Train division and Delayed till the payment is
received or the deliver y point for Airplanes. This difference in revenue recognition is due
to the associated risk that comes with defaulting payments. Furthermore, the Straight line
method for depreciation should be adopted instead of the CRA stated rates. This change
would make the company appear more attractive to the potential shareholders and
investors. Finally it would help have a companywide transition to IFRS for comparable
financial statements. Again the potential stakeholders would be interested in the overall
performance of the company. All efforts should be made to stabilize the Airplane industry.
Prof-
Don’t assume gov doesn’t default on contracts. They are more “fickle”
-management mostly a secondary issue(personal incentive) but not a primary issue
UNLESS they are crossing IFRS.
-IPO IF management might be incentive to dress up as much as possible because they
might be future shareholders (as part of bonus)
-trains are like a commodity best case answer incorporates real world concerns
-amort has to be consistant throughout the board
- rev recg can be differently chosen -even if consolidated statement sthere are no impact
EXCEPT if there were cross sales.
For the planes
They could lease it through an intermediate company and make profit out of that
customers in the real world actually break the contracts pay the fee then lease it from the
intermediate company- everyone profits.
What you could do is depp most now because less dep will show later and your revenues
will be mantianed and there will eb a steady growth will look great in the market and also
usally the 5th year is the more influential
It is okay to spruce things up if there is proper estimation and reliable information if it is
being dressed up for the sole purpose of dressing up then it will be a problem
-management is being rewarded with shares as compensation gives incentive for bias
If potential onces got to know management holds shares already they will have a hard time
to trust
-when and how you would change your recommendations. For example how would you
switch to rec rev earlier then you would use a fin strategy and get athird party to take the
risk and finance the purchase
Always put primary and secondary