Hello,
Could someone help me with the solution of the exercise? I don’t understand the answer and I even don’t fully understand the question (do they ask the question on the QSPE Special Purpose Entity perspective or Cullen Company perspective)? Cullen Comany created a qualified SPE (QSPE) to securitize accounts receivables in accordance with the GAAPs. Cullen receives cash when the receivables are transferred to the QSPE. If the current accounting treatment for QSPE is eliminated, what adjustment, if any, would be most appropriate? A) Reverse the transfer and treat the proceeds received as equity. B) Reverse the transfer and treat the proceeds received as debt. C) No adjustment would be necessary. ANSWER: B. The most appropriate treatment would be to reverse the transfer and treat the cash received as debt. The result would be an increase in assets and an increase in liabilities.
Here you go:
- Cullen transfers (sells) the receivables to the SPE. So on Cullen’s books he has an increase in Cash and a decrease in Receivables.
- Based on what you wrote above, at first Cullen is getting off Balance Sheet treatment, so the above bullet point is the only effect on Cullen’s Balance Sheet. More Cash, Less Receivables.
With me so far? You are half way home.
- Over at the SPE, they issue Bonds to outside investors with the receivables as collateral. So their Balance Sheet has essentially two items: Receivables (Assets) and Bonds Payable (Liabilities).
The Schweser question is asking what happens if Cullen now needs to consolidate the SPE and include its assets/liabilities as its own? In other words, what happens if Cullen loses the off Balance Sheet accounting treatment of the SPE?
- Well, the SPE’s assets (Receivables) and liabilities (Bonds Payable) go over to Cullen and now sit on Cullen’s books.
Net Net Net: Out of all of this, Cullen simply received Cash and issued Bonds. It is just secured borrowing . Answer B is correct.