The Watchdog Inc. (TWI) is a small Canadian public alarm-monitoring company located in Southwestern Ontario. The company manufactures and installs alarm systems, sells alarm parts such as batteries and circuit boards to other service providers, and provides monitoring services to residential and commercial customers. Monitoring services average $15 / month and TWI is recognized in the industry for providing excellent service. Customers may purchase TWI alarm systems separately for $900 and may opt to have monitoring services provided by another alarm company. TWI systems are compatible with any other security provider. The company has experienced stable growth for a number of years; however, due to Covid19, there is concern among management that revenues and net income for the year may be lower than anticipated resulting in little or no bonuses to senior management this year. Bonuses are calculated based on 1% of net income for the fiscal year. Net income for the December 31, 2020 fiscal year amount to $3,500,000. It is now January 15, 2021, and you are the auditor at Burglarstone LLP. You visit the client premises in preparation of the year just ended December 31, 2020. From discussions with the client you learn that TWI has requested an increase to its bank loan for purposes of expansion. You meet with senior management to discuss the appropriateness of certain accounting treatments. Management has also asked you to confirm the amount of the bonus for December 31, 2020. The below events have not been accounted for the company unless noted otherwise.

1) Just before year end, management was notified that a lawsuit of $20,000 had been launched by a former customer of TWI relating to the ELMA alarm system. The customers lawyers have accused TWI of negligence due to the sale of a faulty alarm resulting in a burglary while the customer was out of town. Management believes the potential legal exposure in the matter is estimated at $3,000 and TWI has not accounted for it. TWI has suspended the sale of the ELMA units due to the malfunction.

2) During the year, TWI was awarded a one-year contract of $950,000 from a reputable home builder to install 1,000 MAGGIO monitoring systems (Exhibit I) and to provide one-year free monitoring to several residential subdivisions in Kitchener. The builder is confident this will provide a substantial incentive to prospective homeowners and increase the sales value of the homes when sold late 2021. By year end, 600 of the monitoring systems had been installed. Monitoring services commence once the homes are occupied. TWI has received $200,000 on September 1st and another $400,000 on December 15th from the home builder. The only transactions to date were for the receipt of $600,000 cash recorded in revenue. The balance will be paid in 2021.

3) Year-over-year comparisons of accounts receivable show that balances greater than 90 days have increased by over 20% from the previous year to $900,000. Historically 30 to 40% of accounts receivable over 90 days are not collected. The current balance in the allowance for doubtful accounts is $70,000 from last year. No adjustments have been made for the current fiscal year end.

4) In October 2020, TWI had a promotional offer for monitoring services for new customers requiring monitoring services only. Customers would bring your own device (their existing monitoring hardware) and TWI would provide the monitoring service. Anyone who signed up for the 1-Minute or Its Free special would receive 1-year of service for $60 and all monitoring services would be effective for November 1st 2020. Exhibit II provides further details on the offer.

5) TWI is in the process of developing an Alarm Buddy app intended to provide customers access to 24 hours of monitoring on their phones. TWI has invested $50,000 in the development of the app. Management is confident the app will be well-received in the market. Currently there are other alarm apps on the market but with limited functionality. TWI realizes there may some issues marketing the app successfully but has spent an additional $5,000 to promote it in various media. Management is not sure how to record the costs.

Exhibit 1 - alarm system details

System: ELMA. Units on Hand at December 31, 2020: 200. Per Unit Manufacturing Cost: 300$

System: MAGGIO. Units on hand at December 31,2020: 2,000. Per unit manufacturing cost: $350$

Exhibit 2, 1-minute guarantee or its free

In October, in an attempt to increase sales, TWI offered the 1-Minute Guarantee or Its Free promotion. Customers who signed up for the offer would receive 1-years worth of monitoring service for $60. Customers who signed up for the offer would have a guaranteed call-back by the monitoring center within 1 minute anytime their alarm system was set off (i.e. the alarm rang). If the call-back was not completed within the 1-minute, the entire $60 prepayment would be refunded. 400 customers took advantage of the offer but were required to pay the $60 upfront on signing. The $600 is nonrefundable. This is the first offer of its kind for TWI.

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