Hello everyone and welcome back to the introduction to financial accounting course. My name is Amedeo Pugliese and in this short session I will go through the Media Max case part 2. And review the solutions in order to assess the income for the media market company. At the end of Year 1. Last time we left at a point where we had no information about the adjustments required in order to assess income. At the end of the first year of operations for the company Media Max Now one would take into account all the adjustments. Therefore will cover all transactions the previous facing 26 plus additional nine.
And we will make sure that we can correctly estimate and assess the performance of media max. At the end of Year 1. Here you have the nine transactions that you should have retrieved from the documents and each of these transaction will entail a change in the way we take into account and measure revenue and expenses for media max in year 1. For instance, item number twenty nine tells us that the loan obtained for 30000 has generated interest for half of the year. Therefore we should take into account that an interest expense of 1200 have accrued yet not paid to the bank. Why is this important?
It is important because without this adjustment we will be overestimating the income of the year because we are not in fact taking into account a cost that is accrued yet has not been paid through a cash disbursement. So this is the logic and it’s quite interesting reinforcing it through this exercise. But let’s get started!
Item number 27: the machinery has a residual useful life of 112000 thus the cost in year one equals 16,000.
Now if you remember here we have the cost: Initial costs for the machinery was one hundred and twenty eight thousand. If we would consider the entire cost the entire purchase cost as a cost of relevance for the year it would be largely overestimating the costs for the company. And in fact when we are moving from there without adjustment estimation to the with-adjustment estimation. we can notice a significant drop in terms of the expenses and cost that the company has incurred throughout the first year.
If you can see here we have in light grey all the items that will be subject to these adjustment and in green in each of the slide we will highlight the relevant one for the item under observation. Item number 28 the rental office space has a receipt of value of one thousand two hundred and dusty expense in the year is two thousand four hundred. You remember when we recorded initially the transaction we said that the prepaid rent for the office space was 3600, but in fact this was a prepayment for twelve months Whereas the rental had just started throughout the year.
Therefore not the whole amount should be taken into account as an expense and in fact when we’re moving from the without adjustment to with adjustment column we see again a drop in the value of the cost item number 20 not the loan obtained as generated interest for half of the year. Therefore 1200 interest expenses have accrued yet not paid to the bank. This is interesting because it always happens with banks and loans. The interest accrue and they are not paid because usually payment is postponed. However, for the sake of accounting performance we must take into account that there are additional costs in addition expense due to interest have accrued and we recorded it.
So, this is a slightly different case because the with adjustment figure will entail higher cost and without adjustment item 30 the loan offered to the employee as generate interest for four of the six months of the law. Therefore we estimate that two thirds of the 8 percent of the ten thousand dollars divided by two has generated an interest on the loan for two hundred and sixty seven. And this is a revenue that we add to the weight adjustment column item thirty one of the training program negotiated with beta only one third have been delivered. Therefore, there is a deferred revenue for 48000. What has the earn revenues accrued to 24000.
Again if you remember media Max signed off a contract for the delivery of services and training for 72000. However only one third of these services have actually been delivered and therefore we can take them into account in the estimation of income for the year. Therefore when we are moving from the without adjustment the with adjustment figure we see a significant drop meaning that revenues are not as high as we had previously estimated.
Item 32: The license to use dubbing software has been used only partially for months out of the 36 for the useful life one thousand six hundred and sixty seven instead therefore the cost of the year whereas the residual value is 13,333. And if you see the items in light green we know this that the there is a significant drop in terms of cost and expense from the initial 15,000 two one thousand six hundred and sixty seven. Therefore in the previous case we were over estimating the cost.
There are three additional items that we should take into account: 33 34 and 35 and there have a sort of a different nature than before. Because here the company is making precautionary estimations or looking-ahead estimations.
Item 33: one of the key competitors sued media Max for unfair competition and media Max provisions three thousand for precautionary purposes. As you can see the semi last the role. We have an item called litigation costs that only features under the with-adjustment. This is a provisioning for precautionary purposes that will increase the value of expenses and decrease the performance of the firm. Second, the value of the building acquired has gone up from 60,000 to 62,000 according to Real Estate dot com which is a prestigious real estate company. In this case there’s nothing we can do because we can not revalue the building because that would be a violation of
a key accounting principle: the revenue is not realized yet only when the company will sell off the building and realize the higher value we can take into account these extra revenues.
Lastm item 35: One of the main customer data is gone through financial distress and may not be able to honor the contract. Media Max provisions an allowance for adopt full credits for five thousand. Well it is quite common in day to day business, one of the customers is facing financial troubles Therefore there is a risk that the receivables will not be cashed in these provisioning for doubtful credits for 5000 with the increased expenses therefore decrease performance of the year. Now we have gathered all the information needed to estimate the performance of the year.
So if you have a look at the end of the year income after adjustment, we can compare the expenses without-adjustment and with-adjustment and to that there is a significant drop because many of the items that we incorrectly assessed as expenses are not in fact true expenses. Similarly, the total value of revenues which we initially estimated as being equal to one hundred ninety two thousand has gone down not quite by the same amount as the expenses. If this is the case, the net income goes from a negative minus two thousand one hundred SORRY - two hundred thousand two hundred and seventeen thousand six hundred to a positive fifty two thousand.
Therefore all in all when we take into account all the end of year adjustment we know that the performance of media Max in their first year of operation is quite satisfactory. We are done for this session of review of the media mAX case. Go over the audio and the video again in case you are still having troubles.