Operation of Management

Case #3_Kellett Ltd.

Due in partners at the beginning of class on Thursday March 29th

Kellett Ltd. produces leading edge pollution control equipment for industrial and commercial use. The company was founded several years ago by Angela Kellett. Ms. Kellett recently decided that she would like to sell ownership of her company and found an interested buyer in Acme Pollution Control Inc., an industry leader. After lengthy negotiations Ms. Kellett agreed to sell her company to Acme for $25 million plus an additional $10 million if Kellett Ltd.’s net income before taxes, determined using IFRS, was in excess of $5.35 million in the year ended December 31, 2011. The deal closed on January 31, 2012.

It’s now early February 2012. Angela Kellett recently received the financial statements for Kellett Ltd. for the year ended December 31, 2011. Audited income before taxes is $4.95 million. As permitted by the agreement of purchase and sale Angela’s representative has gathered additional information from discussion with employees of Kellett Ltd. and a preliminary review of company documents. For the most part everything reported in the statements appeared in order, except for a number of transactions described below.

You are Angela’s representative. Prepare a report addressing the issues you found in your meeting with employees and your preliminary review. Your report should discuss the impact and appropriateness of the accounting treatments used in the determination of net income before taxes.

a. On December 1, 2011, Kellett Inc. shipped a $500,000 order for new product to a new customer in Europe. The product was based on a new technology that Kellett Inc. developed. The product has been extensively tested by Kellett Inc. and has received approval from a number of independent environmental testing labs. Management is very confident that it will meet the needs of customers and global environmental standards. Since this is a new product Kellett Inc. has assured the...