From: Accounting Advisor
To: Angela Kellett
Re: Accounting policies for the sale of Mr. Jones's business, Inuvik Technologies Inc.
As accounting advisors, we have analyzed and attempted to provide justifiable recommendations that meet both, yours and Mr Jones's objectives, while still complying with any constraints. Your client, the owner of Inuvik Technologies Inc. (Inuvik), is the most important user of this report because the recommendations provided affect the initial payment and the share of income earned by Mr. Jones after the sale of his company. His objective is to maximize income to receive a higher share of net income for one or two years after the sale. Also, based on the assumption that the initial fixed payment is based on the value of net assets and current year's net income, Mr. Jones objective is to have higher current net asset value and a higher current net income. Also, his objective is to ensure that the buyer complies with contract conditions. The buyer is the second most important user because the buyer has to agree with the recommendations made by us. Based on the previous assumption, the buyer's main objective is to minimize income and the value of total assets resulting in lower initial payment and the future payments made to Mr. Jones. It can be noted that there is a conflict between the objectives of two users, Mr. Jones and the Buyer. The auditor is also an important user because the buyer has requested an unqualified audit from an independent auditor. The auditor's objective is to ensure that our recommendations comply with GAAP, namely IFRS because Inuvik is incorporated. International Financial Reporting Standards is a constraint because the buyer has requested the financial statements to be in accordance with GAAP.
ISSUE 1: Related party transaction is the biggest issue that Mr. Jones must be aware of. The buyer is buying Inuvik because it will be a major supplier to some his businesses. Therefore, the buyer might sell supplies to his businesses at a discounted price or at the cost of the supplies. Such transactions will decrease revenue resulting in a lower amount of net income paid to Mr. Jones. Since, GAAP is a constraint and non-arm's length transactions are not permitted under GAAP, the transactions must be recorded at the fair market value. Hence, to meet Mr. Jones's objective of preventing income minimization, we recommend that one of the conditions of the agreement be that an unqualified audit opinion of an independent auditor be a requirement for the first two years after the sale of the business to ensure the new owner's compliance with IFRS.
ISSUE 2: The current system of evaluating the inventory according to the lower of cost and market rule, which requires inventory to be recorded at its net realizable value, is accepted under IFRS. Similarly, the old inventory should be evaluated and if the NRV is less than its cost, then the inventory...