Posted: February 23rd, 2016

Prepare the journal entries for the year ended 31/12/2018 according to Al’s wishes.

For the purposes of this assignment, you will assume questions one and two are set in 2019. You will also assume that AASB 15 is operational. When dealing with revenues and incomes, you will not consider other accounting rules, unless AASB 15 specifically directs you to do so.
You will assume all other accounting rules currently issued are unchanged in 2019. That is, you do not have to worry about proposed changes or recent changes to rules, such as IFRS 16, the new accounting standard on leases. Your company’s financial year ends on December 31 in all questions.

Question 1 (30 marks)
You are an internal auditor at a company which produces household appliances, such as irons and microwave ovens. The last couple of years have been very hard for the company and the board of directors sacked the Chief Executive Officer (CEO) in May 2018. The new CEO took over in August 2018, sacked most of the remaining senior managers and brought in his own team. The new CEO promised to turn the company around.
When Al, the new CEO, took over, he indicated that he would close down all the production lines based in Adelaide. This represents about 30 percent of all the company’s production lines. All inventory from these product lines would be disposed of via liquidation sales. This announcement was made in the national media in November 2018. At that time, the carrying amount of this inventory was $3.5m and its estimated NRV was $1m. Due to a variety of reasons, none of these liquidation sales took place in 2018. In addition, Al demanded another $2m write down on inventory product lines that would be retained. The $2m write down raised some questions, as this inventory had been selling well all year and there were no indications of problems with expected demand levels or pricing of these items. Al said it was important to be conservative, as he did not want to be accused of overstating an important asset class.
As part of the same announcement in November 2018, Al stated that closing the production lines was an element of a restructure of the company. Relevant staff were notified in November 2018 that their employment with the company would cease in January 2019. This component of the restructuring is estimated to cost $25m. The company recognised this in the annual report for the year ended 2018.
In addition, the senior managers decided to restructure the company by removing many mid-level managers in 2019 and 2020. This was not announced publicly by December 31 2018, as the details were still being worked out. However, Al demanded the company recognise a provision of $10m in 2018 for these expected redundancies.
Finally, Al required the company to record a provision of $1.5m in 2018 for some environmental damage that occurred in 2016 when company staff spilled some chemicals onto the ground, which killed some trees and poisoned a pond on the company’s property. However, the chemicals did not have a long term effect and the spill did not breach any laws. The company has not indicated publicly that it will repair the damage and it does not have a history of doing this. This is the first time the impact of the spill was reflected in the company’s books.
Required
a) Prepare the journal entries for the year ended 31/12/2018 according to Al’s wishes.
(8 marks)

b) Analyse whether these journal entries comply with relevant accounting rules. You must justify your answers with reference to the specific rules (AASB XXX, para y). If you think there is ambiguity, identify the different treatments, and the specific issues giving rise to this ambiguity. (12 marks)

c) Your manager has a feeling Al is playing a dirty game with the accounting figures. However, Al has made a number of statements saying that he prefers to be conservative, in order to protect the shareholders from unpleasant surprises. Discuss whether you think Al is doing the right thing, by being conservative, or whether he is playing a dirty game. You must justify your response by referring to the accounting rules and the conceptual framework. Your manager suggests a good way to address this issue would be to prepare some journal entries, based on feasible scenarios, for what might happen in 2019 and 2020.