Question introductive<p>Melanie Hart, CFA, is a transportation analyst. Hart has been asked to write a research report on Altai Mountain Rail Company (AMRC). Like other companies in the railroad industry, AMRC’s operations are capital intensive, with significant investments in long-lived tangible assets as property, plant, and equipment. In November of 2021, AMRC’s board of directors hired a new team to manage thecompany. In reviewing the company’s 2022 annual report, Hart is concerned about some of the accounting choices that the new management has made. These choices differ from those of the previous management and from common industry practice. Hart has highlighted the following statements from the company’s annual report:</p> <dl style=" display: grid; grid-template-columns: 150px 1fr; gap: 8px 16px;"> <dt>Statement 1</dt> <dd>“In 2022, AMRC spent significant amounts on track replacement and similar improvements. AMRC expensed rather than capitalized a significant proportion of these expenditures.”</dd> <dt>Statement 2</dt> <dd>“AMRC uses the straight-line method of depreciation for both financial and tax reporting purposes to account for plant and equipment.”</dd> <dt>Statement 3 </dt> <dd>““In 2022, AMRC recognized an impairment loss of €50 million on a fleet of locomotives. The impairment loss was reported as ‘other income’ in the income statement and reduced the carrying amount of the assets on the balance sheet.”</dd> </dl> <p>Exhibit 1 and Exhibit 2 contain AMRC’s 2022 consolidated income statement and balance sheet. AMRC prepares its financial statements in accordance with International Financial Reporting Standards. </p> <table style="width:95%;text-align:center"> <caption>Exhibit 1: Consolidated Statement of Income</caption> <tr><th class="left"></th><th colspan="2">2022</th><th colspan="2">2021</th></tr> <tr><th class="left"> For the Years Ended 31 December</th><th>Euros<br> millions</th><th>Revenues<br> (%)</th><th>Euros<br> millions</th><th>Revenues<br> (%)</th></tr> <tr><td class="left">Operating revenues</td><td>2,600</td><td>100.0</td><td>2,300</td><td>100.0</td></tr> <tr><td class="left">Operating expenses Depreciation</td><td>(200)</td><td>(7.7)</td><td>(190)</td><td>(8.3)</td></tr> <tr><td class="left">Other operating expense</td><td>(1,590)</td><td>(61.1)</td><td>(1,515)</td><td>(65.9)</td></tr> <tr><td class="left">Total operating expenses</td><td>(1,790)</td><td>(68.8)</td><td>(1,705)</td><td>(74.2)</td></tr> <tr><td class="left">Operating income</td><td>810</td><td>31.2</td><td>595</td><td>25.8</td></tr> <tr><td class="left">Other income</td><td>(50)</td><td>(1.9)</td><td></td><td>0.0</td></tr> <tr><td class="left">Interest expense</td><td>(73)</td><td>(2.8)</td><td>(69)</td><td>(3.0)</td></tr> <tr><td class="left">Income before taxes</td><td>687</td><td>26.5</td><td>526</td><td>22.8</td></tr> <tr><td class="left">Income taxes</td><td>(272)</td><td>(10.5)</td><td>(198)</td><td>(8.6)</td></tr> <tr><td class="left">Net income</td><td>415</td><td>16</td><td>328</td><td>14.2</td></tr> </table> <br> <table style="width:95%;text-align:center"> <caption>Exhibit 2: Consolidated Balance Sheet</caption> <tr><td class="left"><b>As of 31 December</b></td><th colspan="2">2022</th><th colspan="2">2021</th></tr> <tr><td class="left"><b>Assets</b></td><th>Euros millions</th><th>Assets (%)</th><th>Euros millions</th><th>Assets (%)</th></tr> <tr><td class="left">Current assets</td><td>500</td><td>9.4</td><td>450</td><td>8.5</td></tr> <tr><td class="left">Property & equipment: Land</td><td>700</td><td>13.1</td><td>700</td><td>13.2</td></tr> <tr><td class="left">Plant & equipment</td><td>6,000</td><td>112.1</td><td>5,800</td><td>109.4</td></tr> <tr><td class="left">Total property & equipment</td><td>6,700</td><td>125.2</td><td>6,500</td><td>122.6</td></tr> <tr><td class="left">Accumulated depreciation</td><td>(1,850)</td><td>(34.6)</td><td>(1,650)</td><td>(31.1)</td></tr> <tr><td class="left">Net property & equipment</td><td>4,850</td><td>90.6</td><td>4,850</td><td>91.5</td></tr> <tr><td class="left">Total assets</td><td>5,350</td><td>100.0</td><td>5,300</td><td>100.0</td></tr> <tr><td class="left"><b>Liabilities and Shareholders’ Equity</b></td><td></td><td></td><td></td><td></td></tr> <tr><td class="left">Current liabilities</td><td>480</td><td>9.0</td><td>430</td><td>8.1</td></tr> <tr><td class="left">Long-term debt</td><td>1,030</td><td>19.3</td><td>1,080</td><td>20.4</td></tr> <tr><td class="left">Other long-term provisions and liabilities</td><td>1,240</td><td>23.1</td><td>1,440</td><td>27.2</td></tr> <tr><td class="left">Total liabilities</td><td>2,750</td><td>51.4</td><td>2,950</td><td>55.7</td></tr> <tr><td class="left">Shareholders’ equity Common stock and paid-in-surplus</td><td>760</td><td>14.2</td><td>760</td><td>14.3</td></tr> <tr><td class="left">Retained earnings</td><td>1,888</td><td>35.5</td><td>1,600</td><td>30.2</td></tr> <tr><td class="left">Other comprehensive losses</td><td>(48)</td><td>(0.9)</td><td>(10)</td><td>(0.2)</td></tr> <tr><td class="left">Total shareholders’ equity</td><td>2,600</td><td>48.6</td><td>2,350</td><td>44.3</td></tr> <tr><td class="left">Total liabilities & shareholders’ equity</td><td>5,350</td><td>100.0</td><td>5,300</td><td>100.0</td></tr> </table>

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