ADMS 4590 - Section B

Group Assignment 1

MIAMISURGERY LTD.

Group Members:

Erisa Shahinaj - 215473564

Ruochen Huang - 215774532

Jindan Zhang - 214915557

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Memo
To: Susan Feeney (the engagement partner)
From: CPA (Audit Manager)
Subject: MiamiSurgery Ltd. Memo

Attached is the Memo outlining the Accounting Issue Analysis as well as the audit plan of risk
assessment and materiality for MiamiSurgery Ltd. in 2019.

Accounting Issues

Issue #1: In order to ensure that the inventory would be available ORI placed a $4.5 million
order of the Icefix devices in January 2019. Product delivered to ORI’s temporary warehouse in
Kingston, Ontario in March 2019. A few weeks later, it became clear that the FDA approval
would be delayed, RSD modified the sales contract to allow longer payment terms.

Analysis:
ASPE 3400.05:
In a transaction involving the sale of goods, performance shall be regarded as having been
achieved when the following conditions have been fulfilled:
(a)     the seller of the goods has transferred to the buyer the significant risks and rewards of
ownership, in that all significant acts have been completed and the seller retains no
continuing managerial involvement in, or effective control of, the goods transferred to a
degree usually associated with ownership; and NOT MET: The revised contract states
that they must still wait to get the FDA approval and the payment terms will start only
after the FDA grants approval. In 
(b)     reasonable assurance exists regarding the measurement of the consideration that will be
derived from the sale of goods, and the extent to which goods may be returned   NOT
MET: The return is made because the FDA approval is delayed for 1 year, it further
supports that the conditions have not been met. This would conclude that MiamiSurgery
did not receive the benefit of the transaction yet.
 
ASPE Section 3400.15:            
The following considerations are relevant in deciding whether significant risks and rewards of
ownership have been transferred to the buyer:
1. whether any significant acts of performance remain to be completed; and 
2.   whether the seller retains any continuing managerial involvement in, or effective control
of, the goods transferred to a degree usually associated with ownership. NOT MET: not
all the risks and rewards of the ownership have been transferred to the buyer even though
products have been shipped to the temporary warehouse of ORI. 
 
Recommendation: There is no transfer of risks and rewards to ORI, the $4.5 Million in sales
should not/cannot be recognised. The $4.5 million in sales should therefore be recorded as
unearned revenue until the FDA grants approval. This will however cause the liability to increase
and impact their ability to receive the bank loan. 

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Issue #2: MiamiSurgery recognized the related revenue of $2558,000 on shipment. POB and the
local RSD came to a verbal agreement that POB would not be required to pay for the 370
implants without related instrument sets until the order was completed, and all of the instrument
sets were delivered. Should they recognize the full $2,558,000 of sales?
Analysis:

ASPE 1000.41 Items recognized in financial statements are accounted for in accordance with
the accrual basis of accounting. The accrual basis of accounting recognizes the effect of
transactions and events in the period in which the transactions and events occur, regardless of
whether there has been a receipt or payment of cash or its equivalent. NOT MET, because the
cost of 370 implants of related instruments and equipment is not actually distributed and does not
meet the requirements of accrual basis, so it should not be recognized as income

        ASPE 1000.42 Revenues are generally recognized when performance is achieved and
reasonable assurance regarding measurement and collectability of the consideration exists.
NOT MET, because as the 370 products have not been sent out, the risk and ownership have not
been transferred to the buyer.

 ASPE 1000.46     When economic benefits are expected to arise over several accounting
periods and the association with income can only be broadly or indirectly determined, expenses
are recognized in the income statement on the basis of systematic and rational allocation
procedures. This is often necessary in recognizing the expenses associated with the using up of
assets such as property, plant, equipment, patents and trademarks. In such cases, the expense is
referred to as depreciation or amortization. These allocation procedures are intended to
recognize expenses in the accounting periods in which the economic benefits associated with
these items are consumed or expire. NOT MET, because in the foreseeable short-term future
period, the product may not be delivered to the buyer, so our revenue from the 370 products
should not be recognized

Recommendation: Due to the fact that the remaining 370 instruments are still in late delivery
status, Miami surgery does not expect to ship them before February 2020. Therefore, the revenue
corresponding to this part of the product should not be recognized, so Miami surgery should not
recognize the total sales of $2,558,000

Issue #3: MiamiSurgery is being sued for $3 million by a patient, there is about a 50/50 chance
that MiamiSurgery will be found liable, and the estimated probable judgment would be
approximately $1.5 million. Should Miami Surgery recognize $1.5 million contingent liability?
Analysis: 
ASPE 3290.05 
The following term is used in this Section with the meaning specified:
A contingency is an existing condition or situation involving uncertainty as to possible gain or
loss to an enterprise that will ultimately be resolved when one or more future events occur or fail
to occur. Resolution of the uncertainty may confirm the acquisition of an asset or the reduction
of liability or the loss or impairment of an asset or the incurrence of a liability. MET, because

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MiamiSurgery has a contingency since the company could lose an amount of approximately $1.5
million from the lawsuit which will take place in the future.
ASPE 3290.06     The uncertainty relating to the occurrence or non-occurrence of the future
event(s), which determines the outcome of a contingency, can be expressed by a range of
probabilities that provide a basis for establishing the appropriate accounting treatment. This
Section identifies three areas of this range by a general description as follows:
(a)     likely — the chance of the occurrence (or non-occurrence) of the future event(s) is high;
MET, because there is about a 50/50 chance that MiamiSurgery will be found liable, it is a high
chance of occurrence.
(b)     unlikely — the chance of the occurrence (or non-occurrence) of the future event(s) is
slight; and NOT MET
(c)     not determinable — the chance of the occurrence (or non-occurrence) of the future
event(s) cannot be determined. NOT MET
ASPE 3290.12      The amount of a contingent loss shall be accrued in the financial statements
by a charge to income when both of the following conditions are met:
(a)     it is likely that a future event will confirm that an asset had been impaired, or a liability
incurred at the date of the financial statements; MET, because there is about a 50/50 chance that
MiamiSurgery will be found liable. MiamiSurgery has an estimated probable judgment of
approximately $1.5 million. It means that MiamiSurgery thinks there might be a high probability
of losing the case.
(b)     the amount of the loss can be reasonably estimated. MET, because MiamiSurgery knows
the estimated probable judgment would be $1.5 million.
Recommendation: MiamiSurgery should account for the legal lawsuit as a contingent liability
and should recognize a $1.5 million liability in the Financial Statement.

Issue #4: Commission’s expense has increased because the VP Sales directed Regional
Controllers to record the deep discounts provided to the new distributors as commissions
expense. Commission’s expense is classified as an operating expense. These discounts amounted
to $1.4 million. How should they recognize the discounts from sales which are $1.4 million?
Does it matter as the net income will be the same either way?

Analysis: 

ASPE 3400.03:
“Revenue is net of items such as trade or volume discounts, returns and allowances, claims for
damaged goods and certain excise and sales taxes” NOT MET: Discounts are to be shown as a
sale and used to calculate net revenue. This in turn will result in an overall lower revenue and
something that the VP sales regional controllers would not be in favour of as their bonuses are
dependent on the sales, high sales leading to larger bonuses. 
Recommendation: It should be recognized as a discount under revenue, not under commission
expense, to show the net revenue. Commission expense and revenue should be reduced by $1.4
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million. This adjustment is necessary for presentation purposes in the F/S. This will also help to
not mislead management in their decision-making process in regard to sales and bonuses. 

Summary of Adjustments

Issues Adjusting Entry Summary

1: Unearned Dr. Account Receivable     No transfer of risks and rewards to ORI,

Revenue $4,500,000 sales of $4.5 million should be recorded
  Cr. Unearned Revenue     as unearned income. Since ORI did not
$4,500,000 pay, we need to record 4.5 million US
dollars as accounts receivable.

2:  Revenue Dr. Revenue                      Overstated Revenue, this adjustment

Overstated $1,887,000 balanced the revenue.
   Cr. Unearned Revenue  
$1,887,000

3: Contingent Dr. Contingent Loss          MiamiSurgery needs to record the $1.5

Liability $1,500,000 million lawsuit as a contingent liability,
  Cr. Lawsuit Payable        and it needs to be recorded as an expense
$1,500,000 in the income statement and as a liability
in the balance sheet.

4: Discounts Dr. Discount allowed         Since discounts should be recorded under

$1,400,000 revenue instead of commission fees, we
  Cr. Commission Expense should reduce commission fees by 1.4
$1,400,000 million dollars and revenue by 1.4 million
dollars.

Audit Plan
 
Inherent Risks
Miami surgery uses standard industry terms of sale, i.e., 30-45 days payment terms, FOB
point of shipment, and does not accept product returns. Revenue is recognized when goods leave
Miami's warehouse. In Canada, companies face a strict regulatory environment, such as the
federal drug and FDA. Even if Miami surgery has delivered the goods, there is still risk of failing
to audit. According to the requirements of revenue recognition, the relevant revenue should not
be recognized.
Because FDA has strict regulation, Miami surgery is faced with higher product risk. The
product audit will not be passed.
 
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Control Risks
MiamiSurgery adopts MEDEC ethical standards to solve ethical problems. But in fact, the
relevant control measures did not restrict corruption from the actual rewards There is still the
possibility of corruption.
RSD prepares sales forecasts. The VP of sales approves the forecast, and the CFO adds the
cost component. But the external environment is difficult to control, thus reducing expected
performance.
All new customers and changes to standard terms require approval. However, it should be
noted that we may face the situation of management decision failure.
 
Materiality
The control environment of MiamiSurgery is evaluated as strong. The walk-through test
confirmed that the control measures were in accordance with the provisions of the document.
The areas where exceptions were found, a higher level of substantive testing was conducted.
Substantive testing has also been added to identified risk areas.
The 2018 audit adopted a comprehensive approach. In the 2018 audit, the material was set
at $197,000.
 
Performance Materiality 
Miami surgery has regional offices in Toronto, Boston, Miami and San Francisco. Each
office employs one regional sales director (RSD), sales agent and one regional director. RSD
reports to the VP of sales. The sales agent receives a compensation package. The vice president
of sales will receive a bonus based on the company's total sales. Andrew's 2019 sales budget is
ambitious and sets very positive sales targets for each regional office. This is not realistic in the
view of RSD. The performance appraisal based on performance brings great risk of
misstatement.
  
Specific Materiality
Income
We need to focus on revenue.  The company should recognize the accounting policy of
accounting income in advance, which will bring certain risk of misstatement to the company, so
we need to pay attention to the income account.
 
R & D expenses
The capitalization of the company's R & D expenses and the determination of expenses
affect the profit level. As a high-tech enterprise that attaches great importance to R & D
capability and R & D achievements, the accounting treatment of its high R & D related
expenditure has an important impact.
 
 Marketing and administrative expenses
The accounting treatment of marketing and management expenses in Brazil has certain
particularity. It is the practice in Brazil to pay the distributor's sales staff so that they can use it at
their own discretion in the sales process. This kind of expense will bring some risks of fraud and
misstatement.

Crowdfunding and Financial Implications

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Date: October 15th, 2019
To: Andrew Naylor CEO
From: Ruochen Huang CPA, Jindan Zhang CPA, Erisa Shahinaj CPA
Subject: Financial Implications of Crowdfunding
 
            For the past number of years, MiamiSurgery’s audits have been completed by Plum and
Plum LLP. Recently there has been interest in crowdfunding and the financial implications of
such.
 
            Crowdfunding is a method to collect funds in small amounts from investors, etc. The
bank has rejected MiamiSurgery request for further loans; crowdfunding is an option for
MiamiSurgery to obtain funds it needs. MiamiSurgery has to consider the following:
 
-     There are different types of crowdfunding that are available. Equity, donation based,
rewards-based crowdfunding to new a few. MiamiSurgery must deliberate and decide
which type of crowdfunding works best for them and the types of investors they want to
be working with. 
-     Crowdfunding can come from individuals or groups of individuals. The treatment of the
funds needs to be stated upfront and agreed upon by both parties, especially in terms of
repayment should the funds be treated as a loan explicitly.
- A riskier option for MiamiSurgery is pre purchase based crowdfunding. The funds would
not be recognized as revenue initially because the risks/rewards (ownership) would not be
transferred to the buyer, but it should work with MiamiSurgery current revenue
recognition policy.
-     Should MiamiSurgery request a bank loan after the crowdfunding at a different time, the
bank may request to see the F/S and could request of MiamiSurgery a higher current ratio
as crowdfunding could impact current assets and liabilities as well as risk of investment. 
 
There is lots of information that needs to be taken into serious consideration especially in regard
to preparation of the F/S and revenue recognition. I hope I was of help and provided some clarity
to you in regard to the financial implications of crowdfunding for MiamiSurgery. Should you
have any further questions, please do not hesitate to email me.

Best,
Ruochen Huang CPA, Jindan Zhang CPA, Erisa Shahinaj CPA

Works Cited

1. CPA Handbook and Guidance - Exam Only Version. N.p. Print.

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 2. Crowdfunding. Advantages and disadvantages of crowdfunding. (n.d.).
https://www.nibusinessinfo.co.uk/content/advantages-and-disadvantages-crowdfunding.
3. The Five Types of Crowdfunding Models Explained. Top Crowdfunding Sites for
Fundraising. (2019, December 18). https://www.crowdfunding.com/types-of-
crowdfunding/.