Dowel Machining (DM) makes plain and threaded steel rods for use in construction. They purchase steel rods from steel mills, machine them to precise measurements, and then treat them to
harden the steel. For threaded rods, larger diameter rods are treated similarly to make nuts that will attach to the threaded rod.
DM prefers to buy from Canadian steel mills, but there is a limited supply available. They also buy regular steel rods from U.S. mills. For high-grade steel rods, DM purchases from Korea.
Roughly a third of their business is for high-grade steel products and Korea is the most reliable supplier.
As a commodity, steel is always priced in U.S. dollars, even if the source is within Canada. Consequently, based on production estimates, DM hedges U.S. currency on the buy side with Canadian
currency on the sell side. DM tries to keep no more than one month's worth of raw materials on hand and has generally been successful.
In 2021, the construction industry in Canada boomed, leading to record orders for DM's products. However, prices from the mills went up faster than DM could adjust their selling prices. At the
same time, supply chain disruptions affected both the U.S. and Korean steel purchases. At times, DM ran out of raw materials as well as finished goods on hand. They missed out on several sales
and lost some long-term customers. The owners of DM decided to sell to a larger competitor, Forge Products International (FPI). FPI will buy any remaining inventory, the fixed assets, customer
lists, and name trademarks from DM at book value plus 30%. The current owners will then liquidate the company and pay any retained earnings as a liquidation dividend.
You are currently not associated with either FPI or DM. FPI has approached you to provide some assurance on their purchase. The owners of DM have agreed to co-operate and will keep their
accounting team together until the liquidation occurs.
Required
Briefly discuss five elements to consider in your engagement planning with FPI as the client.