Case Summary:
Xtreme Go-Karts Inc. (XGK) is a financial accounting case that provides students with an opportunity to recommend appropriate accounting policies based on specific user needs. Students adopt the role of a public accountant who must provide advice to a client whose circumstances have changed in the current year. The client is now subject to an annual audit requirement and must maintain a specific debt-to-equity covenant. The accounting policies used in the past may not meet the standard of Generally Accepted Accounting Policies (GAAP). Students are not specifically directed to all of the requirements of the case.
Learning Objectives:
After completing this case, students should be able to:
1. Identify and assume an assigned role.
2. Develop a coherent report and integrated analysis that meets specific user needs.
3. Understand how accounting standards impact financial measures (ratios, covenants, etc).
4. Be able to identify and rank the importance of explicit issues.
5. Understand the importance of hidden (undirected) issues that arise from a detailed analysis.
6. Identify accounting issues (GAAP compliance issues), assess their implications, generate alternatives and provide recommendations within the bounds of GAAP to meet the client’s needs.
Difficulty Level:
Difficult
Technical Areas Covered:
CICA HB, Part II, 1000 – Conceptual Framework
CICA HB, Part II, 3064 – Intangible Assets
CICA HB, Part II, 3031 – Inventories
CICA HB, Part II, 3290 – Contingencies
CICA HB, Part II, 3400 – Revenue
CICA HB, Part II, 3800 – Government assistance
CICA HB, Part II, 3831 – Non-monetary transactions
Suggested Case Approach:
This case can be used as either a hand-in assignment or as an exam for an advanced level accounting course. I have used this case as an exam many times, and it goes over very well. I provide the students with 90 minutes. Students find that the exam is time constraint, but, they generally appreciated the complexity and writing style of the case. Students respond well to a debriefing after the case has been marked and returned.
Suggested Solution:
Users Objectives Constraints
Bank Loan purposes/and to assess debt covenants compliance GAAP
The owners (Abdule & Jennifer) Performance evaluation GAAP
CRA Tax determination purpose ITA
Formerly income tax minimization would have been the objective, since Xtreme Go-Karts Inc (XGK) is a private company. As such, XGK was not bound by GAAP. Although there are various user needs, meeting the bank’s debt covenant ratio requirement (not more than 1:1) is now the overriding objective. Furthermore, the financial statements must now also be prepared in accordance with GAAP.
To: Abdule, Jennifer and Controller
From: Senior Accountant, Arthurs and Partners LLP
Re: Establishment of new accounting policies for Xtreme Go-Karts Inc.
Introduction
The following report has been prepared to analyze and recommend accounting policies, consistent with GAAP, for XGK. The accounting recommendations were made while keeping the debt-to-equity ratio in mind.
Research and Development Costs
Issue: The current policy of deferring both research and development costs is not consistent with GAAP. Research costs should be expensed as incurred, while only development costs can be deferred if they meet the specific criteria set forth in the CICA Handbook. The criteria are as follows:
Implication: The amount of costs that are deferred vs. expensed will have a direct impact on the D/E ratio calculation. The D/E ratio will benefit, in the current year, by deferring expenses.
Analysis: As per IFRS research costs should be expensed. The development cost if they meet the ciretiera could be capitalised. (Mention the criteria (6) for Development costs
