Because Valuation Allowances are primarily a judgement call this assignment will focus simply on making that decision. We want you to practice flexing some professional judgement. There are a range of possible conclusions that would be considered "correct." LML has lost a large customer, in this case we'll analyze what impact that may have. Note: in this part of the case do not worry about including the evaluation of state jurisdictions we will consider the federal jurisdiction only. In addition to the facts below: - The projected income schedule (realization analysis below) projects organic growth beginning in 2022 after stemming the decrease in pre-tax book income. - A significant customer declared bankruptcy in 2020 ; therefore, the Company wrote off all accounts receivable from this customer and saw a considerable decline in revenue directly related to the customer loss. The Company is considering the exclusion of such expense when evaluating whether future income is objectively verifiable. - The Company does not have a history of operating losses or tax credit carryforwards expiring unused. - The Company has identified the following possible tax-planning strategies: - Selling and leasing back manufacturing equipment that would result in a taxable gain of $20 million. - Selling the primary manufacturing facility at a gain to offset existing capital loss carryforwards. Requirement 1: According to ASC 740 , what are the four sources of taxable income? Operating Income - Income gernated from the comapny's primary business actvities. Capital gains -Income gerated from the sale of capital assets, such as property or investments. Taxable income from pass through entites-Income genrated from partnerships, s corporations and other entities that pass their income through to their oweners. Taxable income from foreign source.: income gernated from foreign source that is subject to U.S. taxation. Requirement 2: How much of the reversing taxable temporary differences (DTLs) may be considered in estimating future taxable income? According to ASC 740, only the amount reversing the taxable temporary difference (DTLs) that is more likely than not to be relized maybe considered in etsimating fututre taxable income. This meant that if it is more likly not that DTL will not reverse in the future, it cannot be incldued in the estimated of futre taxable income. Requirement 3: In evaluating the income that LML is projecting to future operations, is LML in a cumulative loss position (assuming LML considers the current year + prior two years)? Requirement 4 : In evaluating the income that LML is projecting related to future operations, the company has projected growth in future projections. Does the evidence of historic losses affect our ability to accept the company's estimate of future growth? Requirement 5 : What other positive or negative evidence do you see in LML's facts that should be considered in the VA discussion? Requirement 6: In your opinion is there enough evidence to justify that LML record a valuation allowance? If so, for how much? Create the corresponding journal entry? LML Corporation Consolidated Statement of Operations Years ended December 31, 2020, 2019 and 2018 In thousands Revenues, Net Cost of Goods Sold Gross Profit Selling, General and Administrative Expense Operating income (loss) Interest Expense, net Income (loss) before provision for income taxes Income tax expense (benefit) Net (loss) income LML Corporation Inventory of Deferred Tax Balances Years ended December 31, 2020 and 2019 In thousands Deferred Tax Assets Allowance for Doubtful Accounts Tax Loss Carryforwards Accruals and other Note: As of December 31,2020 LML had $270 million of net operating loss carryforwards (The NOL carryforwards of $270M represent cumulative tax operating losses, NOT book losses.). Of these, $15 million are capital losses and will expire in 2021, and the remaining $255 million are operating losses and will expire in 2035 . All evaluations related to the projection of future taxable income should not be formulaic but should be based on information that is consistent with expectations and supportable on the basis of evidence both objective and subjective. Because Valuation Allowances are primarily a judgement call this assignment will focus simply on making that decision. We want you to practice flexing some professional judgement. There are a range of possible conclusions that would be considered "correct." LML has lost a large customer, in this case we'll analyze what impact that may have. Note: in this part of the case do not worry about including the evaluation of state jurisdictions we will consider the federal jurisdiction only. In addition to the facts below: - The projected income schedule (realization analysis below) projects organic growth beginning in 2022 after stemming the decrease in pre-tax book income. - A significant customer declared bankruptcy in 2020 ; therefore, the Company wrote off all accounts receivable from this customer and saw a considerable decline in revenue directly related to the customer loss. The Company is considering the exclusion of such expense when evaluating whether future income is objectively verifiable. - The Company does not have a history of operating losses or tax credit carryforwards expiring unused. - The Company has identified the following possible tax-planning strategies: - Selling and leasing back manufacturing equipment that would result in a taxable gain of $20 million. - Selling the primary manufacturing facility at a gain to offset existing capital loss carryforwards. Requirement 1: According to ASC 740 , what are the four sources of taxable income? Operating Income - Income gernated from the comapny's primary business actvities. Capital gains -Income gerated from the sale of capital assets, such as property or investments. Taxable income from pass through entites-Income genrated from partnerships, s corporations and other entities that pass their income through to their oweners. Taxable income from foreign source.: income gernated from foreign source that is subject to U.S. taxation. Requirement 2: How much of the reversing taxable temporary differences (DTLs) may be considered in estimating future taxable income? According to ASC 740, only the amount reversing the taxable temporary difference (DTLs) that is more likely than not to be relized maybe considered in etsimating fututre taxable income. This meant that if it is more likly not that DTL will not reverse in the future, it cannot be incldued in the estimated of futre taxable income. Requirement 3: In evaluating the income that LML is projecting to future operations, is LML in a cumulative loss position (assuming LML considers the current year + prior two years)? Requirement 4 : In evaluating the income that LML is projecting related to future operations, the company has projected growth in future projections. Does the evidence of historic losses affect our ability to accept the company's estimate of future growth? Requirement 5 : What other positive or negative evidence do you see in LML's facts that should be considered in the VA discussion? Requirement 6: In your opinion is there enough evidence to justify that LML record a valuation allowance? If so, for how much? Create the corresponding journal entry? LML Corporation Consolidated Statement of Operations Years ended December 31, 2020, 2019 and 2018 In thousands Revenues, Net Cost of Goods Sold Gross Profit Selling, General and Administrative Expense Operating income (loss) Interest Expense, net Income (loss) before provision for income taxes Income tax expense (benefit) Net (loss) income LML Corporation Inventory of Deferred Tax Balances Years ended December 31, 2020 and 2019 In thousands Deferred Tax Assets Allowance for Doubtful Accounts Tax Loss Carryforwards Accruals and other Note: As of December 31,2020 LML had $270 million of net operating loss carryforwards (The NOL carryforwards of $270M represent cumulative tax operating losses, NOT book losses.). Of these, $15 million are capital losses and will expire in 2021, and the remaining $255 million are operating losses and will expire in 2035 . All evaluations related to the projection of future taxable income should not be formulaic but should be based on information that is consistent with expectations and supportable on the basis of evidence both objective and subjective