Year 4 Hydroqual- need help with adjusting journal entries from preliminary financials along with answers from CFO

15. We noticed that your prepaid insurance amount increased. Is this policy still a one year policy? Yes, it is just for one year. They really raised our rates due to all of the additional work we are doing here and they said that the fact that we are running a late shift increases our liability. 16. We noticed that wages payable really increased this year. Can you provide us with some back up for this increase? The accrued wages are for a ten day period and are higher due to the extra employees we hired to serve our new contracts. I have the time cards if you need to see them. 17. Can you tell us about your new construction project? We need the contract price and also the projected cost of construction. When did you begin this project, and assuming it is not yet complete, how much longer do you expect this project to take? We are assuming that you booked your revenue and expenses on this project based strictly on cash received and paid out? Do you have any additional billings on this construction project outstanding at year end? Also, do you have any payables connected with this project? We started construction on this water treatment plant in late April and expect to finish it sometime this summer, weather permitting. The contract price is $330,000 and the expected total cost is $285,000. This project has been a bit overwhelming for me in terms of accountingbetween buying the warehouse and the new equipment and trying to figure out how to account for the progress on this project, I have been a little frustrated. I just decided to book everything on the cash basis. We do have an outstanding billing amount of $20,500. We expect that to come in any day now. All of their other payments have been on time. We do not have any outstanding payables connected with the project. 18. It sounds like this is a long-term construction contract which means we can recognize revenue while the building is in process, as long as the water treatment plant you are building meets a few important criteria during construction. We need to know three things. First, does the customer control the completed sections of the water treatment plant as you finish them? Second, is this an asset that is customized for the customer, meaning you have no other use for this water treatment plant as the builder? Third, will you be paid for work completed even if the City cancels the contract? Well first of all, there is no chance that the city is going to cancel this contract. They desperately need this plant and they have been nothing but complimentary regarding our work and our progress. And, yes, they have actually started going in and installing some of 5. We noted that there was an increase in officers' salaries. Is HydroQual in compliance with the bank loan covenants? The Bank approved salary increases for both Ms. Mallard and Mr. Bailey. No other covenant is in question as far as I know. 6. Could you provide us with the market value of each of your marketable security investments at December 31, 20X4? We just need to verify your balance sheet numbers. Of course. Here is the 204 year-end broker statement: 7. Do you have preliminary 20X4 financials on the QUALPV investment? Also do you have financials at the date of acquisition? Specifically, because you have a 20% interest, we need to know total assets and total liabilities on the purchase date and net income for the part of the year that you owned the shares of stock. We also need to know how much they paid out in dividends. Financial data for II DY are ac fnllnuse- Less: Dividends declared and paid, Dec 20X4 (we received 20\%) Increase in net worth, last seven months of 204 \begin{tabular}{rr} & 16,000 \\ \hline$213,780 \\ \hline \end{tabular} 8. We also noticed that your "other salaries" increased this year. Are you paying Rick's wife Rochelle to help with the bookkeeping? And, are you paying Kay's partner for anything? We were a little concerned with that arrangement when you explained it last year. I wondered whatever happened to that idea...no, we hired a bookkeeping assistant to help me this year who is not related to anyone in the Company. And, thankfully, part of the increase you are seeing is a result of my first raise after over three years of working here. on the interest payment you made. Can you tell us what the effective interest rate is? I have the paperwork on that bond for you. The bond matures in five years and the market rate is 3.8%. The semi-annual payments are interest only. Rick's friend may join the board, but only if he converts the bond into shares of common stock. By the way, does this bond issue affect our earnings per share calculation this year? Kay was concerned about that the other day. 20. We noted that you expensed the debt issue cost on the bond issue. We are pretty sure that cost needs to be amortized over time, and that it will also affect your effective interest rate calculation. That is another thing that was completely new to me this year. I guess I never got around to researching that completely. Could you please do that adjustment for me? 21. It appears that we need to accrue warranty expense for this year. Do you believe that the 2% of cost of inventory sold is still a reasonable estimate? I guess I forgot to do that again this year. I think that 2% still seems reasonable. Once the three year warranty is up on the items sold last year, we will have a better idea regarding the best estimate to use. 22. We noticed that you paid rent on a warehouse space. Is this a long-term lease that we need to analyze to decide if it should be recorded as an operating or a finance lease? No, that is the same warehouse that we purchased in March. We rented it for a couple of months while we were waiting to take possession of the building. 23. Do you know of any subsequent events or transactions that have occurred since year end 204 that need to be disclosed? Actually, I do. I don't exactly understand all the details, but it seems to finally be some good news for me in terms of compensation. First, the Company granted a nonqualified stock option compensation plan to Rick and Kay on January 2, 20X5 that would provide them each with 10,000 additional shares of common stock, assuming they exercise the options sometime during 207. I have no idea how that works in terms of accounting. Alternatively, I was provided with a stock compensation plan that provides stock appreciation rights to be settled in cash at year-end 20X6. I am assuming that if things keep going the way they have been, I may get a nice chunk of cash from this deal. The only other thing that I know of would be that they are talking about a preferred stock issue occurring sometime this year, but that has not yet happened. entries for HydroQual. Also create the 204 pension disclosure note. Your journal entries must be supported by descriptive explanations, calculations and authoritative sources where appropriate. YOUR 20X4 QUESTIONS AND CLIENT RESPONSES 1. Do you anticipate any significant collection problems? Your allowance for doubtful accounts to open accounts is a low ratio compared to prior years we noted that it is just over 11% this year, compared to much higher levels in the past. Do you think this is a reasonable ratio? Early in the year we wrote off only $26,500 of receivables, which is quite a bit lower than the amount we allowed for last year. Rick, Kay, and I agree that we may lose up to $35,000 from the open accounts as of December 31,204. That's reflected in the bad debt expense entry. The allowance for bad debts was just a "squeeze." By the way, we are finding that our customers who are buying only the inventory items are quicker to pay and less likely to default so we think this ratio should be somewhat lower going forward. 2. Were shop supplies inventoried on December 31? Did you adjust the financials to the ending count? Shop supplies were inventoried on December 31 and their costs were computed from the latest invoices. The account was adjusted to the count. 3. Did you calculate the lower of cost or net realizable value on the pump and valve inventory this year? We will need to verify the inventory value listed on the balance sheet at year end. Could you please provide a schedule listing the details of the inventory pricing? For each item, please provide the cost, the expected selling price, and any direct selling costs. I have the information for you-I am pretty sure I did that calculation correctly this year. I followed your schedule from last year to figure it all out. There was no price drop this year so I cannot imagine that an adjustment would be needed. We did have increased direct selling costs this year since we paid our sales people a two and a half percent commission, but we built that into the selling price. 4. We noticed that you used air freight to bring in your pump and valve inventory this year. Do you find that to be a cheaper way to have it shipped? It is a little more expensive, but because these instruments are so sensitive, it is the preferred method of shipping. The dealership told us that if we used it, they would give us a two-for-the-price-of-one deal on any replacements for items that get damaged during shipping. In addition, as you know, QUALPV is our new supplier and they have arranged to have this equipment shipped directly to us from the manufacturer. We used air freight for all of our pump and valve instrument purchases this year and did not buy inventory from other suppliers. Also, any inventory purchased from other suppliers in the past had been sold as of year-end. Questions for Bookkeeper 20X4 Jerry Loos called to let you know that he had completed responses to your questions. Your list of questions and Jerry's responses are attached. This information and additional discussions with Jerry have provided you with insight on issues to be addressed during the audit. With a little direction from Tom Fasbee, you also brushed up on the guidance on the application of the equity method for the QUALPV investment. You and your new staff assistant, Sam Casey, generally are satisfied that the accounts and Jerry's responses are supported by the underlying facts. Jerry has agreed to adjust his accounts and note disclosures for all corrections proposed by Dunes \& Driftwood. No issues have come to light during the audit, other than those revealed in your questions and the responses, in addition to a question raised by Sam. While completing work on some auditing matters such as confirmation letters to customers and banks, he had reviewed a number of documents recorded in January 20X5 for applicability to 20X4. A supplier's invoice was found that included the following information about inventory in transit at year end: Invoice details: Goods were fittings for the pump and valve instruments. HydroQual's purchase order was dated December 23, 20X4. Goods were shipped FOB shipping point on December 30, 204. Goods were received by HydroQual on January 4,20X5, per a receiving report dated January 4,205. Dollar amount including the air freight totaled $28,670. HydroQual dated the entry to book this purchase at January 5,205. Sam also noted that HydroQual's market borrowing rate for financing vehicles and equipment at year-end had remained at 4.25% percent. Martha Mason called to say that a five-year life is applicable to the new equipment for tax purposes, and that any bond discount, premium, or bond issue cost amortized during the current year is considered to be interest and therefore tax deductible. Finally, Sam questioned whether any new financial statement notes were needed to address line of business or segment disclosures. Jerry had provided him copies of the following financial reports that he now routinely prepares for Rick and Kay to keep track of the two lines of business. The Company is using this information to make decisions about the company's operations. REQUIRED: Attached are your questions and Jerry's responses. Based on this information and the data developed by Sam, prepare your suggested year end 20X4 correcting and adjusting journal 9. Could you please provide us with a list all maintenance contracts and their terms? How much is your biggest annual contract worth now? I gave the listing of maintenance contracts to your assistant, Sam Casey. We picked up two more advance payment contracts. These totaled $266,000, of which $70,000 was unearned on December 31,20X4. All other new contracts are billed monthly. Our biggest contract remains at $196,800 annually, and all previous advance pay customers renewed their contracts this year. 10. Would you like us to reclassify the short-term portion of the finance lease payment for you? Also, it appears that we need to account for the interest portion of the lease payment. The interest portion of the payment should not reduce the lease payable balance as is done with the operating leases. You are talking about the truck lease, correct? I guess I forgot that short-term portion again this year. And, yes, please include the interest adjustment for us if you would. 11. Please summarize the actuary's reports on the pension plan. We need the service cost for 204, and, if they have changed, we need the discount rate, the yield on plan assets, and the rate of compensation increase. We also need to know if the investing strategy has changed. The actuary reported the following: We have the same investment allocation as last year and the rates you asked about have not changed. I think I have calculated the discount and return correctly this year. I followed what you did last year, but am still not clear on that comprehensive income aspect. 12. What repairs and maintenance did you have to do? Most of that money was spent on truck repairs again. It was all just ongoing maintenance. 13. Our calculations indicate that you are depreciating your new warehouse and equipment using the straight line method over 40 and 6 years, respectively and with no salvage value-is that correct? Yes, that is correct. 14. Have medical benefits changed to include postretirement benefits? Medical expenses include only our health insurance policy for current employees. They do not include postretirement benefits. That would be way too expensive for us