WAG analysis - Case Study Example

Financial Analysis of the Wag’s Judgments and Method of Calculating Net Income According to Canadian accounting standards for private enterprises (ASPE), WAG’s financial judgments and methods used have resulted to overstatement and understatement of net income in various ways. First, the method of calculating and awarding dividends and salaries has resulted in the understatement of net income. In Wiki Art Gallery (WAG) dividends are shared on 50 per cent basis on monthly basis and this was paid up to $400 until April 2012.

The amount of dividend paid out to shareholders determines company’s annual net income because they determine the difference between assets and liabilities. According to the Canadian accounting standards for private enterprises (ASPE) a company is restricted from paying out dividends before passing balance sheet test whereby the declared dividends must be equal to or less than the difference between the assets and liabilities. The act of paying dividends on monthly basis instead on annual basis leads to the understatement of WAG’s annual net income as it prejudices the company’s ability to pay creditors therefore increasing the cost of liabilities.

Additionally, the increased interest rates should be captured in WAGs annual income statement to reflect the true net income. Moreover, reduction of Stephen salary by $2,000 in fiscal 2012 was not included in the annual income statement and according to the ASPE principles on full disclosure of expenses such changes if effected during the fiscal year must be provided as additional information to the financial document. Therefore, if Stephen buys WAG Company based on the stated net income and decides not to change the methods of calculating dividends, he will be held liable for violating ASPE that might attract legal penalties for wrong disclosure of financial returns.

Secondly, the depreciation of assets method as used by WAG leads to understatement of net income as well as overstatement of it if considered in different perspectives. The disposal of assets with zero residual value at any given cost other than zero is treated as income to a company under the ASPE. WAG disposed of computer server that had zero residual value at a price equal to the book value and this was not captured anywhere in the annual income statement. This also has an effect to the company’s net income as it understates company’s gains realized on the disposal of assets thus leading to underreporting of the net income.

Note Withstanding, WAG records equipment at cost and charges depreciation on a straight-line basis on its equipment which decreases in value every year due to depreciation charged on it. The depreciation expense is captured in the income statement while the assets true value remains overstated. This implies that the net income is highly overstated because the depreciable assets are not recorded at the book value. Therefore if Stephen buys WAG Company based on the Rob’s calculation of depreciation that informs the current net income calculation, he would buy assets that are overstated and this may affect his eligibility to acquire more capital for the expansion of the company.

Thirdly, the method of capitalizing intangible assets adopted by Rob leads to understatement of net income through the charging of amortization costs in the income statement. WAG capitalizes intangible assets