Question

Toy World Ltd operates a chain of toy shops. The chief accountant has come to you for advice about two financial reporting issues that have been raised at a meeting of the board of directors. Your advice should be justified by reference to Framework 2014
(a) The board of directors has decided to restructure its operations in Queensland. This decision has been announced to the Australian Securities Exchange. As a result of the restructuring, some employees will be made redundant and some leases will be terminated as will some other contracts entered into by the in Queensland. The chief accountant is proposing the following journal entry:

Restructuring expense Dr
Liability for restructuring Cr

(b) The company has placed an order with a toy manufacturer in China. The amount of the order is $750000. The toys are to be built to Australian specification standards by the manufacturer in China. The company has paid a deposit of $75000. which will be forfeited in the event of cancellation. The board of directors says there is no intention of cancelling the contract. The chief accountant is proposing the following journal entry:

Inventory of toys Dr
Cash at bank Cr
Accounts payable Cr

Answer 1

(a). Given that the Board of Directors of Toy World Ltd.will be retrenching some of it's employees, some leases will be terminated and new contracts shall be entered. Since these will not require any Journal entry as signing and terminating of a contract does not amount to a transaction. But the company may have to incurr some expenses related to termination of contracts in form of penalties or other charges. And such payment shall give rise to liabilities towards such restructuring. Hence the entry proposed by the Chief Accountant is correct.

Restructuring expense Dr
Liability for restructuring Cr

(To record Restructuring Expenses arising out of terminating of old contracts and entering new contracts)

(b). Since the company has paid an advance of $75,000 to the Chinese Toy Manufacturer, an entry to record only the advance shall be entered in the books of Toy World Ltd. which will be as follows:

Advance Paid for Purchase A/C Dr. 75,000

Cash at Bank A/C Cr. 75,000   

(To record the payment of advance in relation to the contract of $ 750,000 with The Toy Manufacturer in China, advance being $75,000)

Note: Signing a contract for a future transaction does not mean that the company is increasing or decreasing an asset or a liability at the time of the signing. Hence, no entry shall be passed of $750,000 as the contract has only been signed and no transaction has taken place apart from the payment of advance $75,000.