Wind and Solar Inc. (WSI) is in the business of providing electricity. The company started up in 2016. Currently, it is owned by Winifred Wind and Winston Chang. Both Winston and Winifred own 50% of the WSI common shares. Under the terms of the shareholder agreement, either party may buy the other out at a price of 10 times the current net income. This buyout clause becomes effective immediately. WSI plans to go public within five years if all goes well.
During the year, the company obtained financing from the local bank and purchased land on which it has built large wind turbines (windmills) and solar panels. The company will be generating electrical energy through wind power and solar power. The loan was also used to finance the construction of the windmills and solar panels. Under the terms of the loan, the company must maintain a debt to equity ratio of 1:1.
The cost of building windmills and wind turbines is very expensive and as a result, half way through the year, the company had used up all of the bank financing. The bank declined to advance more funds. Winston and Winifred entered into an agreement with Windy Developments (WD) to help them build more windmills. Under the terms of the agreement, WD will advance the funds needed to build the windmills upfront. In return, WSI has agreed to pay WD a percentage of the revenues generated from the additional windmills once they become operational. The additional windmills are 50% complete.
WSI has several engineers working on the projects who are currently not being paid a salary for their services. Instead, they have been given shares in the company. WSI has set aside 10% of the total shares outstanding in order to remunerate the engineers. Under the terms of this agreement, the engineers may convert their shares to cash at the end of 2017. WSI plans to have a valuation done of the company at the end of 2017 and 10% of the value will be attributable to the engineers' shares. The valuation will be based on the average income from 2016 and 2017.
During 2016, some of the windmills and solar panels were up and running and had started to generate revenues. The company's largest customer was the local government, which had signed a contract with WSI to purchase half of the output of electricity for 2016 and 2017. At a minimum, the government was locked in to pay $1 million. The price per KW hour was fixed upfront and the government had already paid half of the money in advance. The contract was non-cancellable, and even if WSI was unable to deliver the minimum amount of electricity, the government would still be committed to pay the full $1 million. The government noted that it considered the $1 million as a type of grant to support the development of clean energy and was happy to pay the funds in order to support the clean energy movement.
By the end of 2016, Winston had decided that he wanted Winifred to buy out his shares according to the shareholder agreement. The first year of operations had been so stressful for him that he had developed several health problems.
Instructions
Adopt the role of the company's auditors and discuss the financial reporting issues