Computer Commodity, Inc.

Computer Commodity, Inc. (CCI) was founded five years ago by a group of engineers who were focused on entertainment applications of computer technology. These engineers left former employers with significant wealth and wanted to start their own business. Four founders plus the CFO hold various ownership interests in the company.

CCIs initial years have been difficult as the company spent most of the initial investment on research and development, but the company has produced a series of successful products that have received market acceptance in the last three years. While the company has reached the point of generating positive cash flow from operations, it has yet to report a profit. The companys loss has been decreasing and it expects to report its first profit in the fiscal year ended June 30, 2016.

Summary financial information for the last three fiscal years is presented below.

Selected Financial Data: Computer Commodity, Inc. ($000)

Fiscal Year End 2015 2014 2013

Revenues	$ 97,169	100%	$ 69,802	100%	$ 53,923	100%
Cost of Revenues	$ 64,225	66%	$ 41,172	59%	$ 25,411	47%
Research and Development	$ 23,973	25%	$ 19,926	29%	$ 14,143	26%
Selling General and Administrative Exp	$ 20,690	21%	$ 14,475	21%	$ 48,187	89%
Operating Loss	$ (11,719)	-12%	$ (5,771)	-8%	$ (33,818)	-63%
Income Tax Expense (Benefit)	$ 8	0%	$ 1,530	2%	$ (194)	0%
Net Loss	$ (11,727)	-12%	$ (7,301)	-10%	$ (33,624)	-62%
Current Assets	$ 29,647		$ 13,005		$ 9,153
Long Term Assets	$ 20,131		$ 13,546		$ 16,152
Total Assets	$ 49,778		$ 26,551		$ 25,305
Current Liabilities	$ 48,505		$ 22,728		$ 10,139
Long Term Liabilities	$ 8,505		$ 639		$ -
Contributed Capital	$ 128,516		$ 127,205		$ 127,004
Accumulated Deficit	$ (135,748)		$ (124,021)		$ (116,720)
Total Liabilities and Shareholder's Equit	$ 49,778		$ 26,551		$ 20,423
	$ (135,748)		$ (124,021)

Cash Flow from Operations	$ 17,422		$ 7,434		$ 1,030
Cash Flow from Investing Activities	$ (7,486)		$ (8,537)		$ (829)
Cash Flow from Financing Activities	$ (3,658)		$ 401		$ (971)
Change in Cash	$ 6,278		$ (702)		$ (770)

CCI produces hard drives (similar to computer hard drives) primarily for the audio and video industry. The company has nurtured relationships with manufacturers of MP3 players, personal video recorders, and digital video recording equipment, and smart phones. CCIs industry is very competitive, and the cost of product has consistently fallen while offering more capacity to customers. The company has earned a market niche because of product quality, effective research and development, and pricing terms offered to assemblers who use CCIs product in their equipment. Sales growth had been driven by consumer demand for these new products, but sales have also been dependent upon pricing and sales terms. Competition in the industry is intense. Consumer demand is growing, but the company also faces increasing competition from larger public companies. Almost 70 percent of CCIs business is with audio, video, and cell phone equipment assemblers who enjoy substantial allowances depending on market conditions. Assemblers usually submit blanket purchase orders on a quarterly basis, and customers may hold as much as .5 1.5 months worth of inventory at any one time.

CCI currently has only one research and manufacturing facility in North America. Research and development expenditures are essential to continue presence in the market. The company currently allocates about 25 percent of sales to research and development of new products, and the company holds several patents that have allowed it to compete effectively for market share. CCI focuses its engineering on coordinating its product design and manufacturing processes in order to bring its products to market in a cost-effective and timely manner. CCI manufactures or purchases certain magnetic heads, media controllers, spindle motors, and other mechanical parts used in the head disk assembly. The assembly process occurs in a clean room environment, which demands skill in process engineering and efficient utilization of the clean room layout in order to reduce the high operation cost of this manufacturing equipment. CCI warrants its new manufactured disk drives against defects in materials and workmanship for a period of one to five years for the date of sale.

CCI is primarily equity financed, but it also uses accounts payable and advances from customers as financing sources. In 2005 the company financed the equipment out of operating cash flow. The company has recently started to explore plans to finance growth with an initial public offering.

Part I: Materiality ( 10 % of the grade)

Required: Using your previous study ( probably ACTG 495 estimate the amount that you would recommend that the CFO for CCI would regard as material for estimates that she might make . Do you think that this number would be any I different from the overall materiality for the fiscal year ended June 30, 2016.that the auditors might use ?

Part II: Terms of Sale

You work for the controller, Susan Madigan, in the accounting department. She is elated about the companys performance in the fourth quarter. This will be the best year ever for sales. In order to incentivize customers to purchase certain new product lines, CCI modified certain of its normal sales terms at the beginning of the fourth quarter. Historically, CCI has allowed a return period of 30 days. The return period has been extended to 90 days. In addition, CCI has informed its customer that it will price protect the new product lines, such that any discounts provided by its customers to retailers will be reimbursed. These incentives stimulated revenues, and yet Sue wants to make sure that the accounting is correct. As a result she has asked you to prepare an estimate of the appropriate allowance to debit sales and credit a liability for potential incentives.

Based on work performed with the marketing department, you have estimated returns based on the new policy, estimated price concessions had the new policy been in effect, and estimated inventory on hand at CCIs customers warehouses.

($000)
		Actual	Estimated	Estimated	Estimated	Estimated	Estimated
	Monthly	Returns	Returns	Returns	Total	Price	Inventory at
	Sales	(30 days)	(60 days)	(90 days)	Returns	Concessions	Customer Whse.
							@ Customer's Cost
FY 2014
July	$ 4,544	$ 9.088	$ 0.909	$ 0.454	$ 10.451	$ 59.072	Not Estimated
Aug	$ 5,308	$ 15.924	$ 1.592	$ 0.796	$ 18.313	$ 109.345	Not Estimated
Sept	$ 5,838	$ 14.595	$ 1.460	$ 0.730	$ 16.784	$ 61.299	Not Estimated
Oct	$ 5,478	$ 10.408	$ 1.041	$ 0.520	$ 11.969	$ 164.340	Not Estimated
Nov	$ 5,499	$ 8.249	$ 0.825	$ 0.412	$ 9.486	$ 98.982	Not Estimated
Dec	$ 6,099	$ 7.624	$ 0.762	$ 0.381	$ 8.767	$ 262.257	Not Estimated
Jan	$ 6,323	$ 12.014	$ 1.201	$ 0.601	$ 13.816	$ 82.199	Not Estimated
Feb	$ 6,031	$ 10.102	$ 1.010	$ 0.505	$ 11.617	$ 114.589	Not Estimated
Mar	$ 6,244	$ 12.550	$ 1.255	$ 0.628	$ 14.433	$ 197.310	Not Estimated
April	$ 6,383	$ 8.298	$ 0.830	$ 0.415	$ 9.543	$ 640.215	Not Estimated
May	$ 6,822	$ 10.915	$ 1.092	$ 0.546	$ 12.552	$ 293.346	Not Estimated
June	$ 5,233	$ 9.419	$ 0.942	$ 0.471	$ 10.832	$ 172.689	Not Estimated
	$ 69,802

Items in bold represent actual data. Items in italics represent estimates based on conversations with the marketing department and key customers.

($000)		Actual	Estimated	Estimated	Estimated	Estimated	Estimated
	Monthly	Returns	Returns	Returns	Total	Price	Inventory at
FY 2015	Sales	(30 days)	(60 days)	(90 days)	Returns	Concessions	Customer Whse. @ Customer's Cost
July	$ 5,817	$ 8.725	$ 0.873	$ 0.436	$ 10.034	$ 71.547	Not Estimated
Aug	$ 6,012	$ 5.411	$ 0.541	$ 0.271	$ 6.222	$ 378.756	Not Estimated
Sept	$ 6,503	$ 7.153	$ 0.715	$ 0.358	$ 8.226	$ 119.005	Not Estimated
Oct	$ 6,898	$ 8.278	$ 0.828	$ 0.414	$ 9.519	$ 1,257.505	Not Estimated
Nov	$ 7,256	$ 11.610	$ 1.161	$ 0.580	$ 13.351	$ 473.817	Not Estimated
Dec	$ 7,838	$ 7.446	$ 0.745	$ 0.372	$ 8.563	$ 488.307	Not Estimated
Jan	$ 8,301	$ 9.961	$ 0.996	$ 0.498	$ 11.455	$ 151.908	Not Estimated
Feb	$ 8,949	$ 9.754	$ 0.975	$ 0.488	$ 11.218	$ 2,120.302	Not Estimated
Mar	$ 9,102	$ 10.012	$ 1.001	$ 0.501	$ 11.514	$ 300.366	Not Estimated
April	$ 9,323	$ 11.188	$ 1.119	$ 0.559	$ 12.866	$ 170.611	Not Estimated
May	$ 10,206	$ 10.716	$ 1.072	$ 0.536	$ 12.324	$ 258.212	Not Estimated
June	$ 10,964	$ 14.253	$ 1.425	$ 0.713	$ 16.391	$ 935.229	Not Estimated
	$ 97,169
FY 2016 July	$ 11,102	$ 16.653	$ 1.665	$ 0.833	$ 19.151	$ 255.346	$ 16,600
Aug	$ 11,583	$ 10.425	$ 1.042	$ 0.521	$ 11.988	$ 729.729	$ 15,000
Sept	$ 10,960	$ 12.056	$ 1.206	$ 0.603	$ 13.864	$ 200.568	$ 12,000
Oct	$ 12,486	$ 14.983	$ 1.498	$ 0.749	$ 17.231	$ 287.178	$ 13,100
Nov	$ 11,435	$ 18.296	$ 1.830	$ 0.915	$ 21.040	$ 746.706	$ 8,500
Dec	$ 13,201	$ 12.541	$ 1.254	$ 0.627	$ 14.422	$ 3,036.230	$ 6,600
Jan	$ 12,883	$ 15.460	$ 1.546	$ 0.773	$ 17.779	$ 235.759	$ 6,500
Feb	$ 13,622	$ 14.848	$ 1.485	$ 0.742	$ 17.075	$ 994.406	$ 13,000
Mar	$ 12,949	$ 14.244	$ 1.424	$ 0.712	$ 16.380	$ 172.222	$ 16,800
April	$ 20,883	$ 5.221	$ 2.684	No Data		$ 271.479	$ 24,800
May	$ 23,408	$ 5.852	No Data	No Data		$ 293.302	$ 26,500
June	$ 24,896	No Data	No Data	No Data		No Data	$ 27,600
	$ 179,408

Required: (65% of grade) - 25% extended return period , 25% PP ,15% new revenue standard

• Prepare a one two page memo for Susan Madigan explaining the appropriate accounting treatment now that CCI has chosen to give its customers an extended return period and price protection all shipments. If any adjustments are necessary, propose an appropriate adjusting journal entry.
• Separately address whether it is possible to determine if your conclusion is correct. Explain why or why not.
• Separately address whether it may be possible to reach different conclusions about the appropriate financial accounting for this transaction.
• If it is possible that there are different conclusions, does this mean that one conclusion is correct and that the others are wrong? If not, is one opinion better than the others? As you go down this later path, explain what you mean by a better conclusion.
• As you hand in the memo, Susan mentions that she has been reading about a new Revenue Standard that the FASB and IASB have agreed on and is causing a lot o discussion in the CFO press.. She asks you for a likely impact statement ( think no more than 2 pages )

Part III: Exchange of Inventory for Barter Credits (25 % of the grade)

CCI conducted a strategic review of its product lines during the fourth quarter. In conjunction with this it found $ 8 million (at book value) of an older model hard drive in the back of the warehouse. Newer inventory had been placed over in front of the old inventory and the older model had not been shipped on a timely basis. New models are now faster and more reliable. CCI was close to closing a deal with a traditional customer to sell the inventory for $5.5 million when management found a third party broker, Sterling Vendors, which specialized in structuring transactions in which companies are able to exchange excess merchandise for much needed goods and services. CCI decided to accept an offer on June 25, 2016 in which Sterling Vendors would pay CCI $9 million for its outdated inventory.

Payment was received by CCI in the form of $9 million in service credit, redeemable by CCI for a variety of services performed by other clients of Sterling such as office cleaning, waste disposal, and even credits at a major hotel chain that could be used for business travel. For example, credits at a major hotel chain or air travel could be booked at the motel chains or airlines published rate at the time the travel is booked. Note: the published fares represent fares that are posted in hotel rooms or maximum coach fare for air travel. The service credits cannot be converted to cash and should not be considered cash equivalents, and do not have an expiration date.

Required:

• Prepare a one page memo for Susan Madigan explaining the appropriate accounting treatment for the sale of inventory to Sterling Vendors. Your memo should include a journal entry to book the transaction as of June 25, 2016 with supporting logic.
• Separately address whether it is possible to determine if your conclusion is correct. Explain why or why not.
• Separately address whether it may be possible to reach different conclusions about the appropriate financial accounting for this transaction.

d. If it is possible that there are different conclusions, does this mean that one conclusion is correct and that the others are wrong? If not, is one opinion better than the others? As you go down this later path, explain what you mean by a better conclusion.