Accounting Issues to Be Addressed and Recommendations

MEMO

To: Wendy Torrence, Corporate Controller

From: Michael Lao, Assistant Controller

RE: Accounting issues to be addressed and recommendations

Accounting Issues

Considering how Sunkick has started selling franchises this year, there are several accounting issues that need to be addressed. In general, appropriate accounting policies need to be put in place to ensure proper transactions are made. The new accounting policy choices will impact the amount the new bonus system put in place this year. Since Sunkick is a private corporation, accounting standards for private enterprises (ASPE) is recommended.

Franchise fees

• The issue/problem and weakness

• The entire amount of the $250,000 franchise fee should be fully recognized when received. Substantial performance is only achieved once the franchisor has performed all of its services with no more obligations remaining and no unfulfilled conditions left. These are all actually mentioned in the CICA Handbook Accounting Guideline. Therefore, Sunkick still has to deliver on its performances prior to the franchisee opening its location. Once the location is constructed and performance is delivered, Sunkick can finally recognize its revenue.

• Implications and Recommendations

• Sunkick will still have to provide IT support and advertising for the length of the contract once the location has been opened and once the $250,000 is recognized. Deferring part of the $250,000 may be more recommended considering that the costs are provided.
• Franchisees’ money that are received comes before any money is spent by Sunkick therefore creating an Allowance for Doubtful Accounts will not be recommended.
• Deferral is only recommended if costs directly related to the franchise sale where revenue is not recognized. With all these in mind, revenue will only be recognized once future goods and/or services have been provided.

Loans

• The issue/problem and weakness

• 3/5 of the loans are impaired because the franchisees did not make any payments. Now it is key for Sunkick to be aware of how this could impact potential cash flows that it will receive from these franchisees. There is uncertainty on whether adverse changes can occur.

• Implications and Recommendations

• If there is in fact an adverse change in the loans carrying amount, Sunkick should consider stopping accruing interest on the loans. Writing the loans down to fair value of the assets that Sunkick currently has. Knowing the fair value of the company’s assets is key since Sunkick made these purchases for the franchisees prior to their opening. Charges for impairment will occur which will decrease net income. According to the CICA Handbook, Part II, the 3/5 loans to franchisees do show impairment.

The Computers

• The issue/problem and weakness

• The costs of the proposal is $1.6 million for 300 computers and 1 server is expensive. Divide $1.6/301 = $5,316 per computer bought. As these are estimates, the costs could be higher. Another concern is using the same wireless system network to the point-of-sale system. Security could be breached and any confidential data and accounting data could be lost without proper Wi-fi protected pass and WEP.

• Implications and Recommendations

• Sunkick must ensure that the implemented system is integrated well with the head office. The company should explore other opportunities before committing to ECI. Also, if the company proceeds with a wireless network, a Wi-fi Protected Pass and a proper WEP is recommended. Implementing 300 computers to several locations across the country in one week is not realistic and it will result in loss of sales for Sunkick. Therefore, Sunkick must not implement all 300 computers at the same time. Perhaps, before purchasing all these computers, the company must test how well these computers work first and have some kind of trial test. It is highly recommended that Sunkick reaches out to other businesses who are actually specialized in the point-of-sale system and then compare the quotes to that of ECI then make the decision from there.

Eightball Consulting Inc.

• The issue/problem and weakness

• As mentioned a while ago, Sunkick has not explored other options. Sunkick has not considered other vendors for the POS system. ECI’s specialty mainly relies on creating and designing websites, not creating a POS system.

• Implications and Recommendations

• Sunkick should consider other vendors, not just ECI. Sunkick should issue a formal request to get proposals.  

Sudbury

• The issue/problem and weakness

• Sunkick has paid $100,000 to this franchisee because it has been experiencing difficulties in operating its store. Therefore, this amount is a repurchase of the tangible assets and franchise rights of the franchise. The $100,000 might or might not be recorded as an intangible asset at the time of repossession. The $100,000 cannot be recorded as an intangible asset if there is uncertainty in the franchise being sold to an identifiable purchaser.

• Implications and Recommendations

• It is recommended that a part of the amount paid to the franchisee be recorded as tangible assets because they are being reacquired as part of Sunkick’s possession. It is also recommended that the company records this transaction at fair market value since Sunkick does not intend on reselling the franchise. The liability should be recorded as a bank loan and its equivalent number should be the amount to expel the obligation.

Supplies

• The issue/problem and weakness

• Considering how the company acts as a “bridge-gap” for the franchisees in terms of having the food and supplies sold for them at no profit, the company would have to record these transactions anyway.

• Implications and Recommendations

• This implies an Allowance for Doubtful Accounts is necessary in case the franchisees are encountering issues of its own. Sunkick should record its food and supplies as receivables and payables. Once the coffee beans go to the franchisee, a sale should be recorded.

Ethics

• The issue/problem and weakness

• Alex DeLarge, the Director of Corporate Development has accidentally sent an e-mail to the Assistant Controller (me). This Director is unethical. He is trying to force a franchisee out of business by switching the organic beans that Sunkick is advertising with non-organic ones. They are also overcharging for Sunkick’s beans because they want to acquire the location as part of their own to increase profits. Alex and his Vice President, Frank Poole have no shame because they are not following corporate social responsibility expressed by Sunkick’s management and founder.

• Implications and Recommendations

• Since Alex and Frank are unethical, Wendy must report to Ray Mack, the founder and CEO of the company regarding this unethical behaviour. Sudbury’s closing caused by Sunkick must be further investigated.