Your accounting firm has just been hired to perform the audit of Buck’s Hunting Equipment, Inc. (“Buck”). Buck is a retailer of hunting equipment, hunting apparel and outdoor accessories. Buck’s operations are based in Pittsburgh, PA, with retail stores located in the nearby suburbs and throughout southwestern Pennsylvania. Buck is actively developing opportunities to expand its operations in the surrounding region, including construction of several new retail stores in West Virginia and southern Ohio. Buck intends to complete construction and open each of the new stores over the next three years. Buck anticipates incurring significant expenses and making short term cash outlays during the construction phase of the expansion. As a result of this growing need to obtain new, readily available capital, Buck entered into a three year revolving line of credit with its bank (the Bank) on January 1, 2014. The line of credit has a maximum borrowing capacity of $100 million.
Since Buck has not previously used a revolving line of credit, it does not have knowledge of the relevant accounting literature and guidance on how to present the related cash flows in its financial statements. Accordingly, as Buck’s external auditor, management has asked for our assistance in determine the appropriate presentation of the borrowing and payment activity within its statement of cash flows for the year ended December 31, 2014.
Buck had the following borrowings in 2014:
• The line of credit has a maximum borrowing capacity of $100 million. (this is considered to be a large amount) and under the terms of the agreement specific maturity terms will be negotiated by Buck and Bank after each draw by Buck.
• On June 15, 2014, Buck drew $60 million, and signed a note to repay the full amount borrowed by December 15, 2014.
• On September 30, 2014, Buck drew an additional $40 million, and signed a note to repay the full amount borrowed by December 1, 2014.
• On December 1, 2014, Buck paid $40 million to Bank related the second draw.
• On December 15, 2014, Buck paid $60 million to Bank related to the first draw.
• Assume the turnover of the transactions is considered to be quick.
Marching Orders from Engagement Manager
The engagement manager has asked you to research the following accounting issue related to the borrowings for the 2014 financial statements and communicate your conclusions/recommendations in an issue memo.
• Determine whether Buck should present its borrowing and payment activity under the Bank on a net or gross basis within the in the financing activities section of the Statement of Cash Flows.
This memoranda will be included in the audit workpapers. The engagement team has separately determined that the accounting implications of both of these issues are material to Buck’s financial statements. The analysis supporting this determination can be found in the audit workpapers at AA-BB.
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In our discussions with the engagement manager our audit team was requested to recommend how BUCK should treat certain financing activity transactions that it has not had before. These transactions have to do with the revolving line of credit that the company entered into with the Bank. The purpose of this memorandum is to clarify how presentation of the borrowing and payment activity for the year ended December 31, 2014 should be done....
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