Question

Red Squirrel Ltd. provides audited financial statements to its creditors and is required to maintain certain covenants based on its debt to equity ratio and return on assets. In addition, management at Red Squirrel Ltd. receive a bonus partially based on revenues for the year. Additional information related to Red Squirrel Ltd. is shown below:

1.      Depreciation expense on the building for the year was $45,000. Since the building was increasing in value during the year, the controller decided not to record any depreciation expense in the current year.

2.      An order for $61,500 was received from a customer on December 29, 2020 for products on hand. This order was shipped f.o.b. shipping point on January 3rd, 2021. The company made the following entry in December (prior to yearend of 2020):

Accounts Receivable    61,500

     Sales Revenue                      61,500

Please comment on the appropriateness of Red Squirrel’s accounting procedures and their impact on the company’s financial statement users for both scenarios, applying the conceptual framework.

Answer 1