RTL is a family owned and operated business that prints flyers and banners. It has been in operation for over 20 years and is being passed on to the next generation. Profits from the last two years have been significantly declining. This is a direct result of the changing landscape of the industry, which has been moving toward digital printing. RTL management has an aggressive plan to change the revenue mix from traditional to digital printing.
To finance this transition, RTL borrowed money from the bank at the end of 2012 for the purchase of digital printing equipment. Some changes were made to the original equipment to accommodate for the printing of banners.
Despite an increase in digital sales, RTL did not achieve its revenue target for 2013 or 2014. In addition to the slow digital revenue growth, RTL has recently lost its top two traditional print clients, who accounted for 50% of overall revenues. Management is concerned with RTL's ability to continue making payments on the outstanding loan under the current conditions.
Management is actively communicating with the bank regarding potential alternatives. Given RTL's history with the bank, concessions will be made by the bank including a reduction of the interest rate from 10% to 8%, a three-year extension of the current maturity, and a reduction of principal from $2 million to $1.5 million. The restructuring agreement was signed just before year end. Management is confident that the old debt should be eliminated from the balance sheet. The current market discount rate is 9%.
RTL also has a new sales plan that it is offering to digital customers. Revenue contracts include an upfront nonrefundable fee and a term of two to three years. Customers are charged a per-unit fee for each digital print and a flat fee for any change in concept or design. Each contract has a minimum value so RTL earns a flat rate even if digital printing jobs are never performed. The catch to the lucrative contracts are that RTL must be available to print on-demand 24 hours a day, 7 days a week. All of RTL's current digital print customers are small businesses, two of which have recently filed for bankruptcy.
RTL plans to use the digital printing equipment only for five years. At the end of this period, RTL is expecting to pay $100,000 for any modifications necessary to update and prepare the equipment for sale to another vendor. A liability of $100,000 has already been recorded in the books in 2012. The accountant who prepared the journal entry has asked the controller to review this past transaction for accuracy.
Instructions
It is the end of 2014. The financial controller is preparing notes for the upcoming meeting with the auditors. Adopt the role of the controller and discuss any financial reporting issues that should be addressed before the meeting. Identify the necessary journal entries. RTL would like to use more simplified GAAP if possible.