Big Lots Stores Limited (Big Lots) is a chain of retail stores across Canada. Big Lots sells a wide range of kitchen and hardware items, cleaning supplies and seasonal items that it obtains from major manufacturers and wholesalers. Big Lots' strategy has long been to deliver value and help shoppers save time by offering everyday products with low prices and good value in convenient neighborhood location. The company is wholly owned by Sanjay and Priyanka Chowdry, who founded it many years ago. In recent years, the Chowdrys have not been involved in managing the company but have hired professional managers. The Chowdrys currently live in Bermuda and rely on the cash flow generated by Big Lots to live on. A year ago, the Chowdrys hired Joseph Wan as the chief executive officer of the company to help turn the company around after a number of unprofitable years. At the time Joseph was hired, the Chowdrys were worried that Big Lots would go bankrupt and they would lose their main source of income. Joseph was well known as an excellent manager, and the Chowdrys were prepared to pay for someone who could reverse the current financial status of their business. The Chowdrys agreed to pay Joseph a salary plus a bonus of 25 percent of net income (in accordance with ASPE) in each year of a three-year contract. Big Lots' tax rate is 40%. In his first year with Big Lots, Joseph made significant improvements in the strategic direction of the business. In addition to adding online shopping and corporate clients, Big Lots new business strategy is to provide customers with a consistent value add shopping experience, offering a broad assortment of national brand-named merchandise, consumables and seasonal items. Products are available in individual or multiple units at low, fixed price points. This allowed Big Lots to compete with large retail chain stores. Joseph estimated that the bonus this year could reach to $45,000. After hiring Joseph, the Chowdrys feel confident about the viability of Big Lots. Joseph has just presented the financial statement for the current year to the Chowdrys for their approval. The Chowdrys are pleased about Big Lots' profitability, but they are concerned about some accounting treatments that appear to have contributed to the significant increase in net income. Here are the items noted below: 1. Joseph launched an extensive national advertising campaign amounting to $300,000 to improve the image and reputation of Big Lots and to attract new customers. According to Joseph, the re-branding campaign has been a success and as a result Big Lots has been able to increase its profit margins and has increased the flow of customers through all stores. Joseph capitalized 50 percent of the advertising costs as goodwill since the reputation of Big Lots has improved tremendously from before. Joseph directed the accountant to amortize the goodwill over five years, arguing that the increase in Big Lots' reputation in the market will benefit the company over a number of years. A full year amortization was expensed this year. 2. Big Lots has had a policy of writing off all slow-moving inventory at the end of each fiscal period. Slow-moving inventory is defined as merchandise that has been on hand for six months or more. Joseph has changed the policy and now only writes off inventory that he believes cannot be sold. Since the advertising campaign mentioned in (1) above is so successful, Joseph believes all merchandize in stock can be sold and no write offs are necessary for the current year. Records show that the December 31st ending inventory balance over six months old were as follows: $50,000 hardware items, $45,000 cleaning supplies and $25,000 seasonal items. 3. To attract more customers, Joseph has begun offering credit to specific Corporate customers. At the end of the year, the accounts receivable balance reached $150,000. He has not, however, recorded an allowance for bad debt for the period. He believes there is no need to estimate bad debt expense since he only provides credit to customers that have a long standing relationship with Big Lots and has gone through an extensive credit review and pass with flying colours. The industry averages 10% of ending accounts receivable as an appropriate allowance for doubtful account for this type of industry. 4. Until this year, Big Lots depreciated $500,000 leasehold improvements to its stores over the lease term, usually five years. However, Big Lots' leases usually have options that allow the company to extend the lease for an additional five years and in the past the company has always exercised that option. This year, Joseph changed the depreciation period for leasehold improvements to ten years for all leases that give Big Lots the option to extend. 5. During the year, Big Lots opened a new store in Newfoundland, its first store east of Montreal. To get the store into operation, the following costs were incurred: (i) $100,000 to make the building fully wheelchair-accessible; (ii) $41,600 to outfit the new employees with Big Lots uniforms; (iii) $12,700 for the reception to introduce the company and the store to the community and others in the industrial mall where the store is located; and (iv) $64,400 in payroll costs for the new employees while they were being trained. Joseph capitalized the above noted costs as an asset called pre-operating costs. You are a CPA who is also a good friend to the Chowdrys. The Chowdrys have come to you for advice on the above accounting issues. They are concerned that Joseph's accounting choices will result in him receiving a bonus that does not reflect his actual performance as CEO and unreasonably reduce the amount of money that the Chowdrys receive from Big Lots. Lastly, the Chowdrys has asked you to suggest three key ratios that should be included in Joseph's performance evaluation. They don't want you to provide the calculation but rather an explanation to why these three should be part of Joseph's bonus calculation. Required: Prepare a report for the Chowdrys providing them with the advice they seek. Please format the report with this format: Please use the following framework: You need to provide an analysis of users and their strategic objectives. In analyzing the issues in the case, follow the case analysis approach discussed in class namely the "I/A/A/R" approach to case writing. I= Identify the Issue; A= Analyze why it's an issue; A= Alternatives, if any; and R= Recommendation. In your recommendation, ensure you clearly indicate your recommendation, discuss the impact of your recommendation to users' needs and objectives and calculate the financial impact, if any. In the role of the CPA advisor, students must assess each financial reporting issue, recalculate the net income, and estimate the revised bonus payable (if any).