CASE PREPARATION CHART

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I.

SHORT CYCLE PROCESS

LONG CYCLE PROCE$S (continued)

C.

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LONG CYCLE PROCESS

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Case Data Analysis

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tAo

inal Exam ination

OUESUON Z

fSS

martO

(84 minutes)

Wonder Amusements Limited (WAL) was incorporated over 40 years ago as an ar.nulelnent park and golf course. Over tinte, a nearby city has grown to the point where it borders on WAL's propelties. In recent years W[fT*qg91sr*y-lp_gfp ui! m-q-mbe1s gf one fami,Jy, have seen -WJ-'-L.ls. !4nd valuqs-iqqrease s.ignr-ficintly. WAL's majoriry shareholder, Hpl'afd _Smith, owns 557c of the outstanding shares and is not active in WAL's
day to day activities. Last year Howard hired a new chief executive of{icer, Leo Titan. Leo has a reputation for being an aggressive and has the personal financial resources required to support Leo's plans.

rilktaker. Howard is commined to,

Eight months ago, WAL became the gu.c.c-essful bidder, for.a. ney pporys frapc.hipe, in conjunction with a -in,9lry*!glner., Under the terms of the franchise agreement, WAL is required 1o lgila a sports ar-ena, which is currently being constructed. The arena is being pqil_t 91"1999t!on of $q a4glegggl"!.ptr_,kt Another section of the amusement park is being relocated to ensure that the entrances to the arena are close to public transportation and parking. Consequently, some of the rides will be relocated. WAL is the sole owner of the
arena at present.

The sports franchise is separately incorporated as Northern Sports Limited (NSL); WAL holds 75Vo of the shares in the company. Another bid is being prepared by NSL to obtain a second sports franchise so that the arena can be used more often. NSL will be required to lease space from WAL when the arena is completed, in about 22 months. .
For the.first.two sports seasons, NSL will have to lease arena space from Aggressive Limited this time, NSL does not expect to be profitable because:

(AL). During

. . . .

it may take time to build a competitive team; *AI.,it c.harg!-ng a high -rent, and it is not giving NSL a share of concession (hot dogs, drinks) revenue; AL cannot make the better dates (e.g., Saturday night) available to NSL to attract sports fans; and
as a newcomer to the league, NSL is restricted with regard to the players who are available to it and the days of the week it can play in its home city.

Consequently, NSL has arranged to borrow funds from

WAL and from

others to finance costs and losses.

Your employer, Fabio & Fox, Chartered Accountants, has conducted the audit of WAL for several years. WAL has tended to be marginally profitable one year and then have losses the next year. The company has continued to operate because the directors knew that the real estate holdings were becoming increasingly
valuable. Leo is expected to oversee the expanded accounting and finance functions in the company. Leo has met with you and the partner in charge of the WAL audit and has discussed various issues related to the year ending September 30, 1998. His comments are provided in Exhibit L

Er

III

QUES'IIAN.2 (continued)
You have been as-ked p-,lgParg.? .r-?o. L !q.him, whigh will be used for.lhg +qrt .$eeri.n&.u4q-r. -bySp-pg$P{..!,o, Leo. He would like you to discuss the accountiggg$, ind tax.impticarions related to your discussion with ail important issues u, *Jrt*tlffi*r#f;Ar.rt::::*'*!:g. rit" partner wants-a thorough *ffir

In your review of documents, and

as a result of various conversations, you have learned the

following:

1.

.The arena witl

be. m-qrtg?g!, but agly {oJ p-p"ggt f9% of^,its expected cost. Lenders are concerned about the special-use nature of the arena and whether it will be successfully rented for other events, such as

concerts.
2.

-appraisab--and

"Ihe,gt9!geg:-l-e!99rs to WAL and the minority :h,ge!.rol{9qs in. NSL are bolh.exp9glgg-.!9 want to see [q+lii+t ii.a19$enis.pi,ferd-a;;ia|-n! *iiiti'"r io invest, c- o_v.,qs441q .ylil__b-.e-1*qiiilea Uy trt"
lenders to ensure that excessive expenditures are not undertaken ana

tirircaiir is prJierveO.

3.

."lfg-C-q-gc ttqt.itlpnd to consolidate NSL until it is profitable. The investment in NSL will be reported on WAL's financial statements at cgs,t.*Thus, the WAL financial statements will also be used for income tax

purposes.

4"

gr5r9g-ty qh-areholders are not active in the business and want quarterly financial statements in to monitor Progress and assess Leo's performance. The minoriry shareholders have all expressed "-g.lqe-{ . co^ncQlll over Leo's growth $trQtegy over the past year. Most are approaching their retirement !-frft and are relying on WAL to supplement their retirement income.

WAL's

Reguired:
Prepare the report.

I-/n

ifornt

inal Examination

OUESTIpN 2 (continued)

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f) I t!.,000. I C ,..flg.f2hMayl998,wALacquired,forS4.25*,',,on,@ofanamusem.ni|Tkinadifferentcity, Jr
The amusement parEEom-!'-any was wound up and'tfreeqqip-mg:rt, rid.es, concessions, and oittir iffirs are being transported to WAL at a cost qf 5350,000-' The estimated fair market value of the assets and liabilities (agcording to Leo) is as follows:

a road ro the arena's parking lot, two holes of the I 8-hole golf course will be relocated incuned this yeg.1 design, tree planting' g.:.qng 9"g9-r_Lg_{$,1+0,0Q0 aq.e, expgc_ted to be grqss s".aing in order t9 ready the area for next spring. These costs are to be "q4pltgli?qd_ .. pi-e-p*{q!iol_r*4nd us p^rt of the golf course lands, aloqg with related B,roBerly taxes of $ I 3,000 41d in.tqr-e.9t of $

In order to build
nexr spring.

when

ip land leaig.i*eif*

|'art- WJh 41'{et'Yts{"4 tiwAu

q,, \, ,, -i q Y'

Concession prizes (e.g., stuffed Rides and Equipment and

b,..u, '4r' h.7 '.

games parts supplies supplies Eteciricat Electrical i,."u^. and eions Lighting qnrt signs
Liabilities
Net

animals)

' ' '

22,500 | 4'200'000 [
1,650,000

Esdmatedpresenrvalueof taxtosscarry{orward

r*r lil.'1,*, _ "W.!1'#; Z

t",tj4q>

75,000 75'000 ( 100'000 t 100,000 )

6,741,500

./----

Allpcati.4o V\on-mont* won-,",ontta.r"1 "-^..',J< 6, e5<js F^4

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assers

S5Jll00

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WAL expects to spend approximately $400,000 in getting the assets in operating order and $500'000 on foundations *a rit. preparations for the rides. Leo wants to "eap!tal,t9 3s Iirugh aq possiblg," \ *nr{
Approximately $600,000 will be required to relocate the rides that are currently on land that is needed fgl th"^arena. Tlri, urnoun, is to be capitalized, net of scrap recovery on dismantled and redundant equipment
.

ee *f
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ll ra 3. -t X 4.

&*[v^e
4fu"a^

vr evv 1rIi''ti,boo'.;#;;il.i"io.,werefullydepreciatedy"-,ugo' \2<

To assist in financing the new venrures, WAL sold excess land to developers who intend to construct

shopping centre, offlce buildings, and expensive homes that will be adjacent to the goif course and away from rhe amusement park. The developers and WAL agreed to these

terrns: $

l1p-rr{ ,f Paid to WAL on May l, 1998 ", j , ' -1 ro be oaid to WAL on March l, 1999 ro ue palo to wAL on March 1, 2000 ;r'rd: . i- ,.r* f -. ( rr\ n

6'000'000 i0,000,000 8'000'000

.ar,
,

o- (?..;-rr 1

s 24.000.000

The iand is to be furned over to the developers on or about February 1, 1 999, but the sale is to be rePorted in fiscal 1 998.

t{rxa,s*$4

#"fP#

$*

OUESTIOhI

2 (continued)
EXHIBIT
A{OTES

(continued)

FROM DISCUSSrcI,I WITH LEO TITAN

frp,irno

ry, I (l*t;c'fo<-,
.

., Tifffia r-f Y''f ,

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!.4'

' W, Tu"u p'i*4,:f T;,J'ry :,;ffb 't{ 6. The excess lan4 ttrat w qold to developers was carried on WAL's books at $1.35 million, on a pro rata is land'that was
cost basis. Leo would like to levalue the remaining land from $5.4 million to about $100 million in the

An additional "contingent profit" wi-l! a-c-crue-go wAL if the develo p9{"*"a rerurn on investment of ../ - tire-lp9p- !-, a neie te ^,,-tnn6cn[.ai!ql -^-^+L^-".-:;=:;E:-:--^-^^li.L^----ri------^ *lq-el9*Si**2sz ivfr'fr-ttrd*i;;-sdif ih; n6iury donst ucted building t. tr K probabilitv ot u , statements that describes the ppbalility of a continsenr pain. ,/ th"-{egcqbes :9:j_'"1"*ll g_,.1 . :ll5Tr.lt "'-"'

,;;i

i^s

.-Hffifi,es.1.:,Bl_e._*-ert$

N t}Y.-

Q otfT * " t",-l " l. The golfcourse has been unprof,rtable in recent years. However, green fees are to be raised and specific which is organized. Memben of .:. ,..-# ,irn", will be allotted to private *et fufneJ{-.1ub will.pay.ar1o4,:r-gfundable a entr4.nce,club, of $2,000currently beingplus $100 per month for the private per member fee fivelEffi ft: $?,999 is to br recorded as revenue on receipt. ABproxfus.algly- $."9-5."Q,99Oif -t_o-*b: "qperrt_to gpg3$9. $re J}Je-+.*

f\s?.c;

RDl

ftD! "y'i,

club facilitig.;

$ f''gn**l'h"

F 8. .Leo wants to capitalize

Cep rte;t,W&'T il *Lsn

all costs of NSL on NSL's books until it has completed its first year of operations. In iddition to the franchise fee, $20 million will have to be spent on thi following:
$

^ivrrt,qd'* " tJ-kJ"4 f#ntZ

Acquisition of player contracts Advertising and promotion Equipment Wages, benefits, and bonuses Other operating costs
Less

*ffi(\l q*nj/
ffi$qlJ \r\f.*
*"ry *ff
s

12,000,000 1,500,000 3,200,000 6,900,000 3.300,000 26,900,000 (6,000,000)

(.800.000)

Revenue - ticket sales - other

20.000,000

The value._o-f pl4ye.rg can.-c.hangg qgi.c-kly, depending upon their performance, injuries,.and other. factors.

private boxes in which a company can entertain groups of clients. The c_ontract basis, and they must be occupied for a fixed number of nights at -bst-jlg-ig?:qd*o.9.3 fr.ve-ygar 3-I1ggl$fg-pggg-Wf mg$ To date,.l2 boxes have been leased for $15,000 per box for a five-year period, exclusive of nightly charges. A down payment of $3,000 was requiied; the payments have been recorded as revenue.
have.
fL-,rf

The new sports arena

will

, N"7
f'

r fr*"}'*dt/'#e#Y rln:ta{,n*'*

t'

Final Examination Re

QUESTIOh{

2 (continued)
EXHIBIT

(continued)

t{oTES FROM pTSCUSSTOT{ WrTH LE.O T|TAN

ppa*A, . - 10. Three senior officers of WAL, including lro, receive bonuses based on incomg bBfor-e-[,cqmgErcs. h{,n!erythreehaveagreedtohavetheirfiscal1998bonusesrqs9-: r=;=::.,:h{,*!.,,arythreehaveagreedtohavetheirfiscali99-8..bo'nu,"'r6gq .lt -: :: e -tr-.I +---@ tl- ---. --,_ .,--*___, -_ ,, .. ul(H' ' bonuses. A.c,f.r,ralnavmentlto them; are scheduled for Januarv_2000. at,.dVr'bonuses.@marescheduledforJanuary2000. - -? ------:------ --uwl

The

$ud*f 11.theconstnrctionactivirythatistakingplacetotal
__ko"

'r -t

.4 million in fiscal 1998, and

_4#**rp"yA+ygApgn"_c,gplt*Uaed.

d{

cn_f.#

ry
WAL. This amount
has been

12. A_$500,000 fee was paid !o-_a_mq{g4se broker to arrange financing for

*e,c=gr"*e$gs*pthgte$se&::*No.fi naacin+asbeenarrangedtodate.

W4
T*

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206

Paper

III

Suggested ApproggL and

Marki"6

12

OUESTION 2

Suggested aPProach
REPORT TO PARTNER
Fabio & Fox, Char-tered Accountants For The Year Ending September 30, 1998

tr

(This question required that candidates recognize ond incorporate asers and their needs into their analyses. Most candidates recognized thot users sre important and identiJied them, but most did not do a goodiob integrating that recognition into their analysis of the specific accounting problems. The identiJication of users is not an end in itse$ Users are identified to provide guidance for making accounting choices so that televqnt and uppropriate accounting infofmation cary b9 grovided. Candidates sltould note that professional capability mqrks and the Bosrd's expectations required that users' needs be incorporated into the analyses.) As requested, I have prepared a report that can be used for your next meeting with Leo Titan, Chief Executive Officer of Wonder Amusements Limited ("WAL"). The report deals with the accounting, audit, and tax implications of the rnatters discussed with Leo. Over the past year, the business of WAL has changed: it now otvns a sports franchise and is currently building a sports arena. A number of transactions have taken place in connection with the construction of the arena. You have asked me to comment on the various issues related
to these transactions.

ff

{ i

There are mLlltiple

Lrsers

of WAL's financial statements, and they lnay have differing objectives. Before

selecting the accoLrnting polic y for each transaction, we lnLlst consider the different Llsers and decide who the

Our audit risk is higher this year given the acquisitions that have taken place dLrring the year and the additional
users of the Rnanci-ai statements]

Users of

WAL's financial statements

There are many Llsers of WAL's financial statements and, as noted, the objectives of each user may conflict.

The users include WAL's:

*Creditors.

YAL's creditors look to the financial statelnents !o predict future cash flows and determine rvhether their loaniwill be repaid. Further, they look to the financial statements to ensure that the loan covenants are not violated and assist in determining the value of their security. The financial statements may not be appropriate for this use.
Ivlinority shareholders. The minority shareholders are not active in the business and need the financial statements to assess and monitor their investment and to assess Leo's performance. They are also interested in being able to predict cash flow and in minimizing cash outflows in the form of taxes and unwarranted bonus payments.

Llniform Final Examination Report

I ggg

207

Management. kurculq"pf-b.es"*-j:1.-b*qlgs*q-[-the-f,nanc,ial state$.entsi and uses rhem ro report the financial

results of the company to shareholders. As a result, management may have a bias towards selecting accounting policies that tend to increase income and delay recognition of expenses, thus maximizing bonuses. Other users of the financial statements includeT.evenue Canada for income^taxpg"lpg_s_g9. However, our gJrg4erilent is with the directors of WAL and its *unug.ilnt, ;"d*ih.y ;'r*t be our prirnary concern. As a result, the 1-ryg3-p-e1-dations presented below must be consistent u'ith their objectives, must fairly disclose the financial results of WAL, and must enable all users to monitor their investment.
. :J *'+f;*t*

Generally accepted accounting principles must be follorved because we are to issue an audit opinion on the financial statements; however, some flexibility exists in the choice of accounting policies. New p*olicies can be selected to
tg;!r. gl"U-e.9b ?-rgin

slit srs

s.

Overall, the accounting policies recommended must balance managetnent's objective of maximizing its bonus and the shareholders' and creditors' need to predict future cash flows using financial statements they can rely on.
The accounting, audit and tax implications for each issue identified are discussed below. The alternativg.plggg,ng1nC treatments available are explained .qnd. 31 l_9_99_y.!-t$- po]Lcy..iq J9-c_9prne1{-e$"w_here Fin6l;. th. poii"i"t ;coffi;riaed diisilie-iiieiTefinarrci:atiiaienientiiie-nbtinateiiaily riii.uolngand enaute'ttre users of the financiat statements to predict the future cash flows of the company. most candidutes discussed users and their needs, few rsnked lhe users in order of importance. 4!,!:!:W *gf.tt$.e,!:s_pf9y'-i!es...gyq.gqns of rcsaluing..accourttirtg.prablems when sevel!! reasonuble. oltgr1ry!!y:l_gJ!;t. Fuilare to identifl tlte mosl imporlant uset or users resulls irt uccourttittg decisiotrs being nrude in isbliiiort.)
f,'I f
:i
ri

(llhile

!
:

(Accounting problents often do nol have u single definilive solutiott, even under GAAP.

It

is important

i
t ,!,

candidates to recognize situotions where a number of reosontble solutions exist snd to idenlj$1 tljpg_11p_s".1!19"9n( shernatives. Candidates tendetl to itlentifv the most obvious solution to u oroblent. eieit if iiii iollution was not

for

.AttimportatttskillleStedbytheUFEiSprofessionaljudgment."rne.g!iW
to identify,,discuss, and choose an app-ropriate alternutive that satisfies lhe needs of the user or users a!4, is
tltis question were one sided, not well developed or etcplained, and rtol useful lo the users.)

Land revaluation ($100 million)

The land currently owned and recorded in the financial statements is worth considerably more than $5.4 million if the sale of the excess land is used as a basis for calculating its value. Management would like to 19S.q_g1t:Zggfeif _y4l!g !n_c1e1ne3tj4 order to increase the value of the land to $100 million. The,a!1911rqt1_v_1is^d!-s_closlng tle pote!_tl?l increased value of the land in a note to the financial staternents. However. neilhqr3pp-rgach is reasonable or justifiatle.,,{llland is not identicalor of equalvalue and, as a result, reporting tfre iniiemint i;1# ittS fi;iliil* statements would be aisleqding. Furthermore, recognizing fair value increments is not in aCcbrdance with GAAP.
a qualified audit opinion. Management will not want our firm to purposes, the increase in value is not taxable until the land is ultirnately sold. do this. Fortax

If this amount is recorded, we will have to issue

208

Paper

Iil

Suggested

Approegland Marki"E

42

Sale of land ($24 million)

Management intends to report the sale of the excess land in fiscal 1998. We must decide whether it should be reportJd i1.{r9 f fgQ or t19 ilf fiscal period. The sale has been agreed to, the sales ciliiiCf has been signed, and aZSVo aepo's;t has been ieceived. These facts support recognition in fiscal 1998. However, the sale does not close until the 1999 fiscal period and, although the deposit has been paid, the collectibility of the balance may not be
assured.

,*

The sale has not closed and llrqrg{q_re lhe-.incqme.qhould be repgrted ip 1!9_9 as a lon:opelatilg or q9*-u.11gg.gat item. Note disctosure oflne laie will help provide all users of the financial statements with the relevant information.

During our audit, we will have to review the sale agreernent to see if the sale is final and if the deposit is nonrefq,nda,ble, If the agreement is final, and there are no contingencies, my recommendation may change and we may then be able to agree with management's proposed treatment. Otherwise, recognizing the sale in 1998 would cause us to qualify our audit opinion. When the sale is ultimately recognized, we will need to determine the appropriate
cost allocation of the land to this transaction. The tax treatment will also depend on when the sale is completed. If the sale is reported in the current year, then a lgsgrve on thq pfqc,-egds nql yet due may b9 claimeQ Alternatively, if the sale is reported in 1999, a reserve on the deposit paid can be claimed. In addition, we must_e._n!,t1-r. -!h.e1"!hit.!{"4q9?9_tjg!-!q_,c-"qpi9!_ilt.ntJ,Tre, given WAL's primary intention was not to earn income from the sale of land. lt would appear that this amount would be considered capil4! in nature and25Yo of the capital gain can be distributed to shareholders on a tax free basis as a
capital. dividend.

NSL start-up costs ($20 million)

We must determine whether the start-up costs related to NSL should !e qap-i.1qliz-e"{ or ghogfd-Qe expensed as an operating cost. Their treatment will become an important issue to m?laggmeLt if NSL is consolidated with WAL. Generally, start-up costs can be capitalized if a future benefit results from having incurred them. One fact that supports capitalization is that there is a future benefit to these expenses: futurg levenues earned on ticket sale,s. In addition, these expenses will benefit future years since the players' contracts purchased are likely for

longerthanoneyear.However,ifafuturebenefitcannotbeidentified,thentheamountshouldbeexpensed.
example, the value of the players' contracts can change quickly.
rK 't
tt,

For

These amounts should be capitalized as start-up costs. These amounts will benefit future periods, and with appropriate note disclosure the users of the financial statements will understand this policy. If the amounts are capitalized, a reasonable amortization period must also be selected-perhaps the average length of player contracts
outstanding.

During the course of our audit, we must determine the value of the future benefit and verify that the costs pertain to NSL's operations. For example, to determine the value of the future benefits, we could review any revenue
piojections

prdarft

by management.

For tax purposes, we must {-e1e-rsine if.the players' g9n!f_c"t*s.jln be QgducJg.Qi!.,!1".I"-ul-ortlgqlg{gs.4n.gllgiplg :upitu.l'glpgllilgl-"" t, would appear that these costs relate tb annual operating expenses'and can be deducted for tax purposes. we should also consideJ using a partnership structure so any losses incurred can be applie{ against WAL's income in the shorl term. $AL will have to share the small business deduction and other related credits/allowances rvith its associated corporations.

Wrf",!
Purchase of amusement park ($4.25 million)

Final Examination Report

gg|

209

The costs incurred to set up, or move, the amusement park assets to the new location can be capitalized or expensed for accounting purposes. To support capitalization, we must defend the argument that the costs incuped to move the assets constitute the laid down cost of purchasing the assets. Alternatively, one could argue that the present value of the future cash flows is something less than the acquisition cost and, as a result, the amount should be expensed for accounting purposes. Given that support for capitalizing these costs exists, and managements'objective, we 5ecorymend tlrat the amount be capitalized for accounting purposes.
t-t

In addition, there is a-1gg1!!-vg--g^u.1tul:,.p1g"..d-iscrepancy equalto $1.3 million. This discrepancy is net of the ofa loss carry forward recorded as an asset in the purchase price. In order to record this asset, we must determine whether there is reasonable assurance, or that it is more likely than not that the asset will be realized. At
present value a minimum, recording the present value of this asset is not appropriate for accounting purposes.

The negative goodwill must -be allocated to the assets purchased, preferably to the non-monetary assets first. In this way we minimize future depreciation expense for accounting purposes and maximize income.

For audit purposes, we must determine how the fair market values of the assets purchased were determined. For tax purposes, the cost ofacquiring the assets has to be added to the relevant capital cost allowance class and depreciated using prescribed rates. The prior years' losses will be available to offset income generated from the amusement park business. However, the losses will "age" by a year due to the change in control/wind up. The tax cost of the assets will transfer to WAL.

Insurance on construction ($1.4 million)

Management wants to capitalize the cost of insurance related to the construction activity in the curent period. This amount relates to the cost of the building and would not otherwise have been incurred. There certainly appears to be a futril binefrt alsoclated with this iost: a new building. On the other hand,.!gl!11a!ce is a period cost 4lrd is generally incurred every y,S)ar.

Given the users and their objectives, this amount should be capitalized in order to maximize income. For tax purposes, the amount would also have to be capitalized as a building cost and added to the prescribed capital cost allowance class for the building.

Ride relocation ($540,000)

Again, we must decide whether the costs should be.capilalized or expensed for accounting purposes. Sqqs lhq expenditure represent a "betterment" to the rides and increase their useful life, or is the amount strictly a moving c gs! ol repair-type exp-e_nditu.rs ?
In order to capitalize this amount, we must argue that the cost improves the useful life of the rides or increases the amount of future income that can be earned from the rides. The support for expensing these costs in the current period includes the fact that it is a moving cost and does not improve or lengthen the useful life of the rides
relocated.

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Paper

III

Suggested Approach and Marking Key

This amount should be expensed in the cunent period- lt is difficult to argue that the useful life of the rides has been increased. Without strong support forthis position, capitalizing the expense is not reasonable. This treatment allows for better predictability of cash flows given that the amount was incurred in the current period.
The tax treatment will follow the accounting treatment unless the amount is determined to be a capital expenditure. The proposed accounting treatment suggests otherwise.

Arranging fees ($500'000)

The fee paid to the mortgage broker for arranging financing should also be capitalized as a prepaid expe,q_se.fog nccqplliqg^ p_glpo.-i.eq WAL will not "benefit" from this cost until the financing is arranged. Capitalizing this fee rvill maximize income, consistent with the users' primary objectives. ln addition, there will be a benefit over the term of commitment. Arguments that support expensing include the fact that no future benefit will be associated with this n:e and fi n anci.n g. ryey-- I qt U ltill 4t9!y hp_ q:11gg.d. _exp9 During our audit, we must.find out whether the amount is refundable if financing ip npt foqnd. For tax purposes, the amount is likely a type of financing charge and should be deducted over a five-year period.

Consolidation of NSL ($500,000)

NSL must be consolidated for accounting purposes because WAL controls the company. lf this subsidiary is not consolidated with WAL's results, we will have to qualify our audit opinion. For tax purposes, the tax returns are filed
on an entity-by-entity basis, so consolidated reporting is not required.

(Few candidates ronked ilte issues undfocused tlteir unalyses ou the importunt issues. Insteod they responded to the issues as tlteJ) were pre. ffiuestiott. The {/FG1e5ts the ability of candidates to identtfy, elefine, unrl rartk issues. Some of th{lssues presentetl h'erc not mu1g1lgfisuch tls revenues from privaLte ioxes and gotf course relocrttiort) uttd sltoukl nd Vussed in deptlr. Cttrttlitlutes sltoultl note that the more intportnttt issues in the questions received u heuvier weightirrg than lhe minor ones. Ctutdidutes should also rtote that professional capubility murks were awurded for demonstrutirtg the ubility to runk, TItis is how the Board csn reward candidates wlto focus o,t more important issues.)

(The remaining issues in this questiott were considered to be minor und less importurtt. Cundidales responses sltould lnve identified these issues; however, depth of anulysis was not e-tpected.)

Golf membership

fees

We must determine whether the revenue from golf membership fees can be recognized in income immediately or deferred and recognized in incorne over time-as members use the course. The main questions in such situations are.whether the risks have transferred and if the deposits are non-refundable.
The justification for recognizing the amount in income is that the fee iuon-Le_lrllrgSble and there is no future service

that must be provided or future cost that must be incurred. Conversely, the suppoit available for deferring the

-the

income is that the amount has not yet been earned. If deferred, the income should be included over a 5-year period length of the contract.

iI
I t I I I
1

i
i

unrform Final Exantination Report

- I998

2I

This arnount can be taken into income immediately. The amount is non-refundable, a_nd immediate recognition better e - : - "- ' :' reflects the actual iash flows. All users of itre nnancial statements are served weli btiltil poiiCt:' The $350,000 in upgrade costs to the facilities should not be recorded in the financial statements until incurred.

During our audit, we must review the membership agreement and confirm the refundability (or non-refundability) of arnounts. Resolving this question will help determine the accounting treatlnent. For tax purposes, a reserve can be claimed for services not yet provided. The upgrade to the facility will likely be capital in nature and will have to be capitalized for tax purposes in the year incurred.

Contingent profit on the sale of excess land

Managernent wants to disclose the probability that a contingent gain will be earned on the sale of the excess land in a note to the financial statements. However, thi.s..Qiqc,foqure is not appropriate. Note disclosure should describe the nature and terms of the sale agreement, not the probability of earning future income.

lf and when the payment is received, the amount should be recorded

as an unusual

item in the year received.

For tax purposes, when the additional amount is detenninable, it must be included as proceeds from the disposition of the land. It can be included in the year of receipt. Amending a prior year's tax return will not be necessary.

Golf course relocation costs ($168,000)

We rnust decide.wh-ethelthe.golf-course relocation.costs should be capitalized as part of the golf course lands or whether lhey should be expensgd for accog.nting purposes. Generally, the decision depends on whether the expenditure represents a betterment or improvement to the course or a repair to the current property.
The argument that the relocation cost improves the course and potentially increases the future revenue that WAL could earn suggests that the amount should be capitalized. On the other hand, one could argue that the cost does not increase the value ofthe course or the potential for increased revenues in the future. The golf course relocation costs should be capitalized for accounting purposes. Management maximizes its bonus, and the other users of the financial statements will be able to predict future cash flows.

For tax purposes, the interest and property taxes incurred during the year can be deducted. As well, the cost of
$140,000 to move two golf course holes could be considered a landscaping cost and can also be deducted in the year incurred. The tax deductibility of these costs is imponant, given that the accounting treatment will not affect the tax treatment.

Private boxes ($36,000 vs $180,000)

We must determine whether the revenue fiom leasing private boxes should be recognized for accounting purposes The support for recognizing the income is that the deposit received is non-refundable and no serVice -of-{g-{g#g4. must tle"piouided in the future. The supporl for defering recognition of the income is that future revenue will be earned from use ofthe boxes, but that revenue has not yet been earned and therefore should not be recorded in the financial statements. For the reasons cited and consistent with the user's objectives, we should-recognize this amount in income of the current year.

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Paper

III- Suggeste@and

Marki"g Kry-

During our audit, we must review the sale agreement to deterrnine the refundability of the deposit. For tax purposes, a reserve can be claimed for services not yet provided. Bonus accrual Overall, the bonus system appears to be determining the accounting policies selected, and poor decisions may be made as a result. The bonuses must be.agg$ed for in the year in which they are earned, based on net income, and not when theY are Paid.
Depending on the materiality of the bonus payments, we may have to qualifo our audit opinion if these amounts are not accrued. For tax purposes, the bonus payments must be paid within 180 days of year-end tq be deductible. The 1998 bonus is not deductible until paid, while the 1999 bonus is deductible in the year accrued.

Other tax

issues issues that need to be pursued:

My review uncovered other tax

The interest costs incurred during the construction period may have to be capitalized. CCA cannot be taken on rides that are not available for use. Deferred income taxes could arise because accounting policies differ from tax.
These issues need to be analyzed further.

Conclusion
The recommendations made above are based on the analysis provided and the users and their objectives. Overall, management's seleqted.po-lic,ies are misleading, given thg significant expenses and short{erm cash requiremen-ts of WAL. The accounting treatments selected *uit U. fairly disilosed so that the various users with their difftiiiii$"* o'UltiTiues can properly interpret the financial statements.

(Overall, this questiort wus consielered to be average in dfficulty, witlt un uncomplicated set of facts. It tested the candirlstes ability to lie their analysis to the use$ and their needs und to muke recommendations consistent witlt the users' objectives. Very few candidates ranketl the issues, identijied or discussed alternative accounting trcatments, or mude recommendatious thut were consistent with their anulyses.)