You are beginning the 2013 audit of Alta Tierra Company’s long-term debt, and you determine that the company’s long-term note payable requires that it comply with certain financial covenants. The note payable is dated January 1, 2010, has a face value of $1,000,000, is due December 31, 2019,and is held by First Bank of Apex. The note payable requires that Alta Tierra maintain a minimum current ratio of 1.25, and any violation of the covenant allows the lender to call the debt. You find that Alta Tierra’s year-end current ration is 1.1 Alta Tierra’s Chief Financial Officer, Tony Plush, informs you that the company is in violation of the debt covenant but has been granted a waiver by First Bank of Apex, so there are no consequences to the violation. The waiver allows Alta Tierra 90 days from year-end to increase its current ration to above 1.25. Your audit partner believes that the violation is an issued and is concerned that the long-term debt must be reclassified as current.
Research the related generally accepted accounting principles and prepare a short memo to your audit partner that answers whether the long-term debt should be reclassified. How would your answer change if First Bank of Apex granted a 15-month waiver as opposed to the 90-day waiver? How would your answer change if Alta Tierra met the 2013 year-end covenant, but it was probable that the first quarter 2014 current ratio covenant would be violated? Cite your references and applicable paragraph numbers.
Note: Students are expected to cite references to GAAP in their research of this issue. While they might use various sources to conduct their research, the FASB Accounting Standards Codification, which is the primary source of GAAP, is cited in parentheses
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