Boxco Limited Draft Balance Sheet As at December 31 (in thousands of dollars) Assets Current assets: Liabilities Current liabilities: Shareholders' equity Share capital Retained earnings Boxco Limited Draft Income Statement For the Year ended December 31 (in thousands of dollars) APPENDIX II ASSURANCE - ADDITIONAL INFORMATION Notes and Additional Information The financial statements for Boxco have been prepared using ASPE. Note: Additions in 2021 were $636,000. Note 3 - Development costs All research and development costs are expensed as incurred in Selling, General, and Administrative expense, except for the costs noted below. Fibreglass tank project The past year has been spent developing a next-generation, fibreglass oil tank. Discussions have been held with distributors, who are eager to start selling the tanks to their residential customers. A working prototype has been built, but we have three remaining steps to complete before proceeding with production: - We need certification from the government, which we expect to receive within the next few months. - We need the board's consent to proceed, in Lino's absence. - We need to finance the start-up costs of the new business. We anticipate being in commercial production, and shipping product, within one month of overcoming the three hurdles. All development costs related to the fibreglass tank project have been accumulated in a special balance sheet account, entitled Development Costs. The costs incurred to date include a $140,000 non-refundable deposit on equipment and $480,000 of design and other development costs. Note 4 - Bank borrowing The company has a credit facility with Canadian Bank, as follows: Bank indebtedness - line of credit The line of credit available is equal to, 80% of its accounts receivable 45 days and under plus 60% of its finished goods inventory, to a maximum of $4 million. Long-term debt - term loan The term loan of $3.85 million ( 2021 - $4.40 million) is secured by equipment. It was arranged in 2018 in order to help pay for the commercial tank operation acquisition. The loan is being repaid over 11 years with equal annual principal payments. Covenant The credit facility requires maintenance of a debt-to-equity ratio of no more than 2:1 at each balance sheet date. Debt and equity are calculated as total liabilities and total equity, as measured using ASPE. Note 5 - Lawsuits It is common for the company to get named as a defendant in lawsuits pertaining to oil spills. Boxco is currently named in 21 such lawsuits, which is a lower number than normal, and the legal team believes that they will lose the lawsuits. To protect against exposure to payouts on successful claims, which typically range from $600,000 to $710,000 each, the company maintains annual insurance coverage of $5 million with a $20,000 deductible per claim, which has historically been sufficient. When named in a lawsuit, the cost of the deductible is accrued. If the lawsuit is subsequently dropped, the amount is reversed. Only the deductible has been accrued to date for the 21 lawsuits. Note 6 - Revenue During the year, Boxco received a contract to manufacture four large commercial tanks for Sliver Corp, a mining customer, for delivery in 2022. As of December 31, 2022, three of the tanks have been completely manufactured and the remaining tank is 90% complete. Only one of the tanks has been delivered to the customer as the customer asked Boxco to keep the tanks at its plant until construction of the mine site is complete, which is anticipated to be by mid-2022. Each tank has a contract price of $240,000 and is expected to generate a gross profit margin of 10%. Only one tank is manufactured at a time, and each tank takes three weeks to finish. The completed tanks are insured by the customer. As it has only collected payment for the tank that has been delivered, Boxco has only recognized the sale of one of the four tanks in the 2022 financials. The other three are included in inventory. Note 7 - Cost of sales Boxco has unionized plant workers. In February 2022, the workers went on strike for three weeks, and temporary contract workers were hired to replace the union workers during that time. It was subsequently determined that lower-quality units were produced by the temporary workers, and some tanks have since been confirmed to be defective. Thankfully, none of these defective tanks resulted in oil spills but some have been returned. Approximately 800 residential tanks were manufactured and shipped during that period, 32 of which have already been replaced at a cost of $400 per tank. Management thinks that another 50 tanks might be defective and has committed to its distributors to replace any tanks with manufacturing defects or a period of one year after purchase. Beyond an amount for those that have already been replaced, no amount has been included in the financial statements. In the past, it was rare for the company to experience returns from its distributors. APPENDIX III ASSURANCE - ADDITIONAL INFORMATION Information on the Control Environment As Discussed with Louie Plu and Various Staff Members Entity level controls Prior to his illness, Lino was very involved in the business and approved all major decisions, including approval of all expenditures. However, as his involvement during 2022 was sporadic, Tony Chan, Boxco's controller, was given authority to act on Lino's behalf. Tony does not have a formal accounting designation, but he is a conscientious, long-time employee. Tony has one accounting clerk who supports him in his role. Three years ago, Boxco converted to an Enterprise Resource Planning system (ERP), which has resulted in the elimination of its IT department staff and its servers. The ERP system is well developed and widely used by organizations in a variety of manufacturing sectors. The system allows user roles to be configured to enhance segregation of duties. Sales cycle Boxco sells its residential tanks through a distributor network of several hundred customers. These customers order tanks in batches of at least 10 , which is the minimum number of tanks that Boxco will ship. Due to their size and customized nature, commercial tanks are sold in single quantities. The administrative process for invoicing and collection is the same for both divisions. Orders are submitted through a secure website that is fully integrated with a module of the financial system. Each customer has a unique login and profile that specifies a credit limit and the terms of sale. These terms are populated by the controller, who is the only person with access. Orders are received by the operations team and shipments are filled from inventory or are scheduled on back order if the inventory has yet to be manufactured. Backlogged orders are typically shipped within a few weeks. When orders are shipped, the operations people key in the quantity of tanks, and the system instantly and automatically generates an invoice that is sent to the customer electronically. Standard credit terms are net 45 days, although some customers have negotiated early payment discounts, which are tracked in the system. Remittances from customers are made through electronic funds transfer. The accounting clerk reviews the deposits by viewing an online bank statement daily. A listing of customer receipts is prepared, and entries are made in the financial system to apply remittances against customers' accounts. Purchasing cycle Boxco purchases a variety of raw materials to manufacture its tanks, from steel to welding supplies. Boxco's five shop foremen and one production manager are all authorized to issue purchase orders for materials, as required, without approval. To solicit the best price, the company uses several suppliers and does not limit who their employees can purchase from as there is no list of pre-approved vendors. Materials are delivered to the receiving area, where a warehouse employee receives the bill of lading and files it away. When the supplier invoice is received, which may be that day or a few days later, the accounting clerk enters the payable amount into the accounting system and selects a payment date. Cheques are printed each week. The system selects all invoices scheduled for payment in that week and automatically prints the cheques. The cheques typically require one signature, Lino's, but Tony Chan has been the signer since June of last year. The accounting clerk mails the signed cheques to the suppliers. The accounting clerk prepares a monthly bank reconciliation that is filed and available for review upon request. Question Draft a memo for internal control deficiencies for sales and purchasing. Boxco Limited Draft Balance Sheet As at December 31 (in thousands of dollars) Assets Current assets: Liabilities Current liabilities: Shareholders' equity Share capital Retained earnings Boxco Limited Draft Income Statement For the Year ended December 31 (in thousands of dollars) APPENDIX II ASSURANCE - ADDITIONAL INFORMATION Notes and Additional Information The financial statements for Boxco have been prepared using ASPE. Note: Additions in 2021 were $636,000. Note 3 - Development costs All research and development costs are expensed as incurred in Selling, General, and Administrative expense, except for the costs noted below. Fibreglass tank project The past year has been spent developing a next-generation, fibreglass oil tank. Discussions have been held with distributors, who are eager to start selling the tanks to their residential customers. A working prototype has been built, but we have three remaining steps to complete before proceeding with production: - We need certification from the government, which we expect to receive within the next few months. - We need the board's consent to proceed, in Lino's absence. - We need to finance the start-up costs of the new business. We anticipate being in commercial production, and shipping product, within one month of overcoming the three hurdles. All development costs related to the fibreglass tank project have been accumulated in a special balance sheet account, entitled Development Costs. The costs incurred to date include a $140,000 non-refundable deposit on equipment and $480,000 of design and other development costs. Note 4 - Bank borrowing The company has a credit facility with Canadian Bank, as follows: Bank indebtedness - line of credit The line of credit available is equal to, 80% of its accounts receivable 45 days and under plus 60% of its finished goods inventory, to a maximum of $4 million. Long-term debt - term loan The term loan of $3.85 million ( 2021 - $4.40 million) is secured by equipment. It was arranged in 2018 in order to help pay for the commercial tank operation acquisition. The loan is being repaid over 11 years with equal annual principal payments. Covenant The credit facility requires maintenance of a debt-to-equity ratio of no more than 2:1 at each balance sheet date. Debt and equity are calculated as total liabilities and total equity, as measured using ASPE. Note 5 - Lawsuits It is common for the company to get named as a defendant in lawsuits pertaining to oil spills. Boxco is currently named in 21 such lawsuits, which is a lower number than normal, and the legal team believes that they will lose the lawsuits. To protect against exposure to payouts on successful claims, which typically range from $600,000 to $710,000 each, the company maintains annual insurance coverage of $5 million with a $20,000 deductible per claim, which has historically been sufficient. When named in a lawsuit, the cost of the deductible is accrued. If the lawsuit is subsequently dropped, the amount is reversed. Only the deductible has been accrued to date for the 21 lawsuits. Note 6 - Revenue During the year, Boxco received a contract to manufacture four large commercial tanks for Sliver Corp, a mining customer, for delivery in 2022. As of December 31, 2022, three of the tanks have been completely manufactured and the remaining tank is 90% complete. Only one of the tanks has been delivered to the customer as the customer asked Boxco to keep the tanks at its plant until construction of the mine site is complete, which is anticipated to be by mid-2022. Each tank has a contract price of $240,000 and is expected to generate a gross profit margin of 10%. Only one tank is manufactured at a time, and each tank takes three weeks to finish. The completed tanks are insured by the customer. As it has only collected payment for the tank that has been delivered, Boxco has only recognized the sale of one of the four tanks in the 2022 financials. The other three are included in inventory. Note 7 - Cost of sales Boxco has unionized plant workers. In February 2022, the workers went on strike for three weeks, and temporary contract workers were hired to replace the union workers during that time. It was subsequently determined that lower-quality units were produced by the temporary workers, and some tanks have since been confirmed to be defective. Thankfully, none of these defective tanks resulted in oil spills but some have been returned. Approximately 800 residential tanks were manufactured and shipped during that period, 32 of which have already been replaced at a cost of $400 per tank. Management thinks that another 50 tanks might be defective and has committed to its distributors to replace any tanks with manufacturing defects or a period of one year after purchase. Beyond an amount for those that have already been replaced, no amount has been included in the financial statements. In the past, it was rare for the company to experience returns from its distributors. APPENDIX III ASSURANCE - ADDITIONAL INFORMATION Information on the Control Environment As Discussed with Louie Plu and Various Staff Members Entity level controls Prior to his illness, Lino was very involved in the business and approved all major decisions, including approval of all expenditures. However, as his involvement during 2022 was sporadic, Tony Chan, Boxco's controller, was given authority to act on Lino's behalf. Tony does not have a formal accounting designation, but he is a conscientious, long-time employee. Tony has one accounting clerk who supports him in his role. Three years ago, Boxco converted to an Enterprise Resource Planning system (ERP), which has resulted in the elimination of its IT department staff and its servers. The ERP system is well developed and widely used by organizations in a variety of manufacturing sectors. The system allows user roles to be configured to enhance segregation of duties. Sales cycle Boxco sells its residential tanks through a distributor network of several hundred customers. These customers order tanks in batches of at least 10 , which is the minimum number of tanks that Boxco will ship. Due to their size and customized nature, commercial tanks are sold in single quantities. The administrative process for invoicing and collection is the same for both divisions. Orders are submitted through a secure website that is fully integrated with a module of the financial system. Each customer has a unique login and profile that specifies a credit limit and the terms of sale. These terms are populated by the controller, who is the only person with access. Orders are received by the operations team and shipments are filled from inventory or are scheduled on back order if the inventory has yet to be manufactured. Backlogged orders are typically shipped within a few weeks. When orders are shipped, the operations people key in the quantity of tanks, and the system instantly and automatically generates an invoice that is sent to the customer electronically. Standard credit terms are net 45 days, although some customers have negotiated early payment discounts, which are tracked in the system. Remittances from customers are made through electronic funds transfer. The accounting clerk reviews the deposits by viewing an online bank statement daily. A listing of customer receipts is prepared, and entries are made in the financial system to apply remittances against customers' accounts. Purchasing cycle Boxco purchases a variety of raw materials to manufacture its tanks, from steel to welding supplies. Boxco's five shop foremen and one production manager are all authorized to issue purchase orders for materials, as required, without approval. To solicit the best price, the company uses several suppliers and does not limit who their employees can purchase from as there is no list of pre-approved vendors. Materials are delivered to the receiving area, where a warehouse employee receives the bill of lading and files it away. When the supplier invoice is received, which may be that day or a few days later, the accounting clerk enters the payable amount into the accounting system and selects a payment date. Cheques are printed each week. The system selects all invoices scheduled for payment in that week and automatically prints the cheques. The cheques typically require one signature, Lino's, but Tony Chan has been the signer since June of last year. The accounting clerk mails the signed cheques to the suppliers. The accounting clerk prepares a monthly bank reconciliation that is filed and available for review upon request. Question Draft a memo for internal control deficiencies for sales and purchasing