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Edward G L Carter & Co

Clive Vlieland-Boddy

FCA FCCA MBA

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Key Issues

What is the Company? What is the Industry? What is the decision to be made? Who is to make the decision?

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The Company

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The Company

Owner controlled private business. Equipment leasing company. Was successful but business now “lost”! Niche market disappeared. Difficult to differentiate product.

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The Industry

Fragmented with few large players. Barriers to entry? Low!

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The Industry

Many large players. Highly competitive. Difficult to differentiate but R & D important. Barriers to entry.

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What is the decision to be made?

Proposed changes to Accounting Policies. How do these sit with the 4 fundamental

accounting concepts?

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Who is to make the decision?

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Who is to make the decision?

The directors.

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Qualification

It is the responsibility of the directors to produce the accounts.

Under new laws introduced into most countries, the directors now have to certify that the accounts are not misleading. If they are then found to be so then they have committed a “Criminal Act”.

So it is the responsibility of ALL directors.

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The Tax Scheme

I actually qualified in 1977 and was interested in tax.

Margaret Thatcher came to power in 1978 changing the tax structure in UK.

Before max tax rate was 98%. She reduced it to 60%.

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The Finance Act 1978

100% tax allowance for the purchase of plant & Equipment.

Allowance to write off losses against current years other profits. ( remember now at 60%)

Or: go back 3 years and offset against the tax which was paid at 98%.

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Going Back 3 years

This meant that a tax payer could invest £100k and get back £98k. But……. It didn’t end there.

Another section of that Act stated that if you paid tax when you should not have, then you were entitled to interest compounded at 8%.

Thus instead of a refund of £98k, you got £133k. A profit of £33k from the tax man.

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I stress. I did not write the Act, just put the jigsaw together.

You might now see why the UK Inland Revenue, when they realised the situation closed the scheme down.

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History & Background

Ted Carter founder and owner. Company only been going for a few years. Made use of favourable tax concessions.

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Current Position

Tax benefits withdrawn. Company in financial difficulties. Likely to be

insolvent. Future prospects loo grim. Bad liquidity. Unusual investment strategy! Auditors unhappy with accounting treatments.

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Accounting Concepts

There are 4 fundamental accounting concepts.

Going ConcernConsistencyMatching / AccrualsPrudence.

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What are these?

They are silent principals which are always assumed to be employed in the production of financial statements.

If ever there is a dispute between these then prudence should prevail. ( i.e. you should be cautious!)

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Accounting Policies

These are the decisions that management need to make on the basis of the financial statements.

They require a degree of judgement. In applying that judgement, they should be

guided by the 4 fundamental accounting concepts.

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So what are accounting policies

Method and rates of depreciation Method, basis and valuation of inventories. Method, basis, depreciation, write off

capitalisation and valuation of intangibles. Revaluation of any Non Current Assets. Revenue Recognition.

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Method & Rates of Depreciation

Contrast Straight Line with Reducing Balance. (see manual page)

Changing rates can again materially alter the Income and net book value of Non Current Assets.

Therefore manipulation of these can greatly affect and distort the picture.

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Method and Basis of valuing inventories

Consider the switch from LIFO to FIFI ( see manual page)

It is managements decision to identify slow or obsolete inventories and write them off! Thus they could easily manipulate this.

It is management who have to evaluate which is the lower. Cost or Net realisable value.

Remember the “Great Salad Oil Scandal”

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Intangibles

Consider the capitalisation of R & D? ( See manual page)

Consider the real value of Goodwill? (see manual page )

Are patents really worth the value in the Balance Sheet?

Management need to resolve these. They can be realistic or over optimistic!

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Revaluation of NCA’s

IFRS allows this. But only when really necessary. Where the picture would be misleading without so doing.

If revaluation is to be done then it has to be done professionally.

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Revenue Recognition

See manual chapter.. This is again an area where management are

required to use their judgement to establish when and how revenue will be recognised.

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Returning to EGLC & Co

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What are your views of the board meeting?

What about Ian Landless’s comment about his clients?

How about Kim Lees comment ablut being insolvent?

What about Robert George’s comment about personal liability?

How about TED?

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Ted’s Office later!

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What about Kim’s Suggestions

Revaluation of houses – Again!

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Change depreciation policy – again!

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What basis of valuation of inventory will they thik of next?

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How consistent can they get at writing off goodwill?

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Revenue Recognition. Has he gone mad? He has not even sold these yet? He may never!

What about matching the revenue with the expenditure. This is just a single entry….

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What about the bonus for Ted?

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Lets look at letter from Peat's.

Revaluation of land & Buildings! Inventories – do they really exist? Depreciation policy- what policy? Insolvency. Well just cook the books! What benefits. Surely I am entitled to live

somewhere? Goodwill or Bad will? What's wrong with R & D. Microsoft has it! We need to match the legal fees with future income!

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Lets Look at the Balance Sheet

After depreciation, by far the largest asset was Freehold properties. Yes some £1.8m representing over 60% of the total NCA’s were two houses for Ted to live in! Oh yes rent free!

NCA’s should be a strategic investment by the company to be USED for the business.

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Corporate Governance

Personal use of companies assets! Chairman's dining room! Excessive dividends. Last year £750k. This

year £400k! Dictatorial attitude towards staff. How would you feel if you lost your job?

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So where is this company going?

Is it still a viable concern? What about the “Going Concern Concept?” Does it still apply? If not. How will that affect the financial

position?

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Sadly there are many like Ted. Most failures are the result of such people. They normally only see want they want to. I hope that you never find yourself working for

such a person. They are charismatic. Highly believable.

Convincing and totally confident.

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The End