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Boiling H20 Inc. Boiling H20 Inc. (BHI) is relatively new company that designs video games and applications for mobile devices. Users are able to download a game or application onto a mobile device for a fee that normally ranges from 99 cents to $4.99. In addition, users can play the company's games over the internet at www.boilingh20.com. The company was established by Henry James and Olena Zee, one year after they completed a degree in computer sciences. Henry and Olena are excellent programmers, and have been playing video games since they were children. After designing a mobile device game for an undergraduate course assignment, the two friends decided to start up BHI. The company's games have been well received by the market, and have been downloaded by over 5 million users across the globe. In addition, the company's applications are also considered to be high quality. The company experienced signicant growth in its rst ve years of operations, and are wondering if they should go public in the next few years. Henry and Olena are excited about the prospect about going public however the Board of Directors wants to see the latest nancial results before deciding on the next course of action for the company. Based on the results released by industry competitors, the Board of Directors are expecting the company to report revenue of $7 million and earnings of $1.5 million in the current year. You are the senior manager with White duck and Hellen, LLP, the auditors of BHI. Recently, you met with Henry and Olena to discuss the following transactions that took place during the year: I BHI began selling 2-year, non-refundable memberships. The memberships are sold for $75 and allow users to download any 100 games during the twoyear period. During the year, 15,000 member- ships were sold. Accordingly, members can download up to a maximum of 1.5 million games under the membership. On average, a member downloads 85 games. During the current year, a total of 475,000 games were downloaded under the agreement. Management decided to record revenue $1,125,000 during the current year as BHI has no further work required to service the member ships. Currently, BHI has over 100 games in its library available for download. - During the year, the company purchased the rights to develop a game based on a popular comic book hero. BHI paid $175,000 for this exclusive right, and incurred an additional $475,000 in pro gramming costs to create the game, and $205,000 in promotional costs. BHI capitalized $855,000 as an intangible asset. The following are the expected downloads for the game, which will be sold for $1 .99. Downloads Probability Year 1 Year 2 Year 3 Optimistic 25 300,000 200,000 55,000 Average 60 155,000 90,000 20,000 Pessimistic 15 75,000 50,000 5,000 a Lease payments for the new company car have been capitalized. Monthly payments are $400 for the three-year lease. 10 monthly payments have been made so far. If BHI had purchased the car, it would have cost $30,000. The car has an expected useil life of six years. Depreciation has not yet been recorded. Current interest rate is 6%. a At the beginning of the year, BHI issued 100,000, redeemable preferred shares to the public for $5 each. The preferred shares have a dividend yield of 7%. The preferred shares must be redeemed if the common share price exceeds $20 per share. Dividends of $35,000 were declared and paid during the year. 0 During the year, BHI was named in a patent infringement lawsuit in regards to the use of various trademarked logos. The Company's lawyers believe that there is a 50 chance that the case will be settled with no damages to be paid by BHI. However, there is a chance that the company may have to pay between $100,000 and $200,000 in damages. As of year end, both the $100,000 and $200,000 amounts are equally likely (50% each). Dra ASPE nancial statements reveal revenue and earnings of $7,478,000 and $2,257,000, respectively. Management displayed their excitement for their ability to meet the Board's revenue and earnings expectations. The partner has asked you to prepare a memo for the audit le that discusses the appropriate accounting treatment of the above-noted transactions. While the memo will be used as part of the audit planning process, you are not expected to comment on audit related issues. Required Prepare the memo