Case #1 (80 minutes) It is July 15, 2021. You, CPA, a senior at a small CPA firm, go over your notes from your afternoon meeting with Richard J. Richard came to your office looking for help with his business, Richard's Professional Print Shop Ltd. (RPP). Richard is the owner-manager of RPP, a copy and print shop located in Thunder Bay. He recently approached a bank for a loan. At his last meeting with the bank, the bank manager indicated that the loan is almost approved and told Richard that he needed a review engagement report on RPP's 2020 financial statements. You confirmed with the bank that it indeed required a review report by August 15, 2021. The partner in charge has asked you to identify the issues that need to be resolved in performing the review engagement. In your file, you have the following information: Exhibiti: Summary notes of the discussion with Richard Ginny Exhibit II: Income statement for the year ended December 31, 2020 and 2019 prepared by the client The partner is eager to see a draft income statement for the year ended December 31, 2020 based on the information you have thus far. He also wants you to draft a letter to Richard offering personal and corporate tax advice resulting from your findings. Lastly, the partner was hoping for a brief overview of how any identified control weakness could be mitigated and a preliminary analysis of whether RPP will have cash flow problems. EXHIBITI SUMMARY NOTES OF THE DISCUSSION WITH RICHARD RPP provides copying and small print job services from a single location close to a university. The business was organized in January 2019 to meet the needs of companies, the university, and students in the area. At the time there were no copying businesses in the area, and Richard saw this as an opportunity to become his own boss after many years of working as a mechanic for the local bus company. Richard remortgaged his home for $55,000. This money was invested in the share capital of RPP. He also borrowed money from relatives to get the business started. With the money, Richard was able to purchase the computers, printers, copiers, and scanners needed to provide the full range of quality services that he thought his customers would need. Most of the equipment he purchased was used, which greatly reduced startup costs. He also purchased the furniture and fixtures needed to set up a functional and attractive place for the business. As of December 31, 2020, RPP still owed Richard's relatives $100,000. Richard personally paid $3,800 interest for each of the last two years on the additional mortgage on his home. RPP now needs a loan for two reasons. First, some of Richard's relatives want their loans repaid. Since the business is now on its way, Richard thinks RPP can repay some of the money it owes. Second, Richard would like to upgrade some of RPP's equipment and obtain some additional pieces of equipment In addition to providing copying and printing services, RPP sells a variety of stationery and office products, and provides assistance in designing documents and other printed materials. RPP operates long hours to provide high-quality customer service as well as to complete customer orders. More than one person has to be on duty at all times to ensure that production can be done while customers are being served, and so that pickups from and deliveries to customers can be made. Richard tries to be in the store as much as possible, but he is not able to be there all the time. His wife works in the store about 15 hours per week. The store is operated by employees only (neither Richard nor his wife are present) for about 25 hours per week, mostly at non-peak times. Richard spends a lot of time trying to attract new customers. He regularly visits businesses in the area to meet the decision makers, often treating them to an evening out or a meal. About 40% of the advertising and promotion budget goes toward this type of activity. The remaining money is spent on advertising in community newspapers, sponsorship of various community activities, and printing and delivering flyers to businesses in the vicinity. EXHIBIT I (continued) SUMMARY NOTES OF THE DISCUSSION WITH RICHARD Richard is satisfied with the performance of his business. He thinks that it has grown nicely since its inception and anticipates that it will be profitable soon. In the meantime, his wife, Allison, has to continue to work as a clerk for another retail business to support the family. Richard and Allison have two children, aged nine and seven. The neighbour provides child care when the parents are at work and they pay her $7,000 per year. Allison performs RPP's accounting and prepares a yearly income statement. Allison has little training in accounting. RPP has never filed a tax return because Allison did not think it was necessary to file such a return until there was a profit to report. Customers can pay by cash or by credit card, or RPP will provide credit to any customers who ask. About 25% of RPP's business is for cash, 25% is on credit cards, and the remainder is on credit offered by RPP. RPP asks customers to pay within 10 days, but often they do not. When a sale is completed, it is rung up on the cash register. When Richard and Allison are in the store, they are the only ones who operate the register. Richard admits that, because he is in too much of a hurry, he sometimes puts the cash in his pocket rather than take the time to ring up the sale. Having cash in hand allows him to pay his babysitter and other personal expenses. Though it was hard for him to be certain, Richard estimated that transactions worth about $10,000 each year have been handled in this way. When Richard and Allison are out of the store, the cash is controlled by one of the employees. That employee is required to lock up for the day, and is instructed to count the cash in the register and then lock it in a drawer in Richard's office. Richard has a lot of confidence in his employees, most of whom are students attending university and working part-time to make money. Allison records the revenue by adding up the deposits made to the company's bank account during the year. Amounts owed by customers are recorded at the time of delivery on a specially designated sheet of paper kept by the cash register. As cash is received, the related balance on the list is reduced. The accounts receivable balance on December 31 is the total amount on the list on that date. On December 31, 2020, there was $16,200 on the list and on December 31, 2019, the amount was $11,505. When Allison prepared the income statement, she included a bad debt expense of $1,955 in 2019 and $2,754 in 2020, the amounts being estimated at 17% of the accounts receivable balance. EXHIBIT I (continued) SUMMARY NOTES OF THE DISCUSSION WITH RICHARD Richard obtained a corporate credit card on which he makes RPP's purchases. Items purchased on the credit card are expensed in the year as long as a statement is received from the credit card company before Allison prepares the year-end income statement. If the statement comes in after that time, the expenses will get picked up the following year. Richard sometimes makes personal purchases on the corporate credit card if he thinks he is too close to his credit limit on his personal credit card. Richard estimates that he charged about $4,000 of personal expenses to the corporate credit card in each of the last two years. In addition, Richard has taken about $25,000 in cash each year from the business for personal reasons. Allison included these amounts in the Payments to Employees item on the income statement. Richard says he has not filed a personal tax return since he started RPP. RPP maintains supplies of paper, toner, bindings, and other materials used to meet customers printing and photocopying needs. In addition, there is an inventory of merchandise that RPP sells to customers. Richard determines what he needs for inventory by doing a visual check of the storeroom every few days. When he needs particular items, he calls the suppliers who are usually able to deliver the goods within a few days. On occasion, Richard has to go to a large business supply store because he has run out of needed stock before the supplier can deliver the goods, and he pays for these purchases with the corporate credit card. Allison determines the cost of merchandise sold during a year by adding up the amounts on the invoices received from the suppliers. The amount of inventory on hand at the end of each year is counted so that Richard can get a clear idea of what he has on hand. I told Richard that we needed the inventory value on December 31, 2020 and 2019. He determined the value of the inventory by using the list of what was in the stock room on December 31 and applying prices from the most recent supplier price lists. On December 31, 2020, RPP had inventory of $12,222 and on December 31, 2019, the balance was $8,200. Richard pays suppliers invoices in full as soon as they are received. Richard explained that he is afraid to miss a payment because suppliers may stop supplying. He figures that paying the bills as soon as they are received is the best way of avoiding the problem. Employees are paid minimum wage. Since it is easier for Allison, employees are paid their gross earnings by cheque at the end of each week. EXHIBIT II INCOME STATEMENT SUPPLIED BY THE CLIENT RICHARD'S PROFESSIONAL PRINTSHOP LTD. INCOME STATEMENT For the year ended December 31 2020 2019 Sales 360,547 $ 260,034 124,984 42,204 90,099 10,000 Cost of merchandise sold Selling, general and administrative Payments to employees Computers, printers, copiers and scanners Furniture and fixtures Advertising and promotion Utilities Interest on loans from relatives Bank charges Rent Bad debt expense Other expenses 34,727 18,300 5,000 2,000 22,000 2,754 16,618 96,212 35,249 83,740 85,000 15,000 29,503 17,900 5,000 1,500 22,000 1,955 12,444 368,686 405,503 Net loss $ (8,139) $ (145,469) Case #1 (80 minutes) It is July 15, 2021. You, CPA, a senior at a small CPA firm, go over your notes from your afternoon meeting with Richard J. Richard came to your office looking for help with his business, Richard's Professional Print Shop Ltd. (RPP). Richard is the owner-manager of RPP, a copy and print shop located in Thunder Bay. He recently approached a bank for a loan. At his last meeting with the bank, the bank manager indicated that the loan is almost approved and told Richard that he needed a review engagement report on RPP's 2020 financial statements. You confirmed with the bank that it indeed required a review report by August 15, 2021. The partner in charge has asked you to identify the issues that need to be resolved in performing the review engagement. In your file, you have the following information: Exhibiti: Summary notes of the discussion with Richard Ginny Exhibit II: Income statement for the year ended December 31, 2020 and 2019 prepared by the client The partner is eager to see a draft income statement for the year ended December 31, 2020 based on the information you have thus far. He also wants you to draft a letter to Richard offering personal and corporate tax advice resulting from your findings. Lastly, the partner was hoping for a brief overview of how any identified control weakness could be mitigated and a preliminary analysis of whether RPP will have cash flow problems. EXHIBITI SUMMARY NOTES OF THE DISCUSSION WITH RICHARD RPP provides copying and small print job services from a single location close to a university. The business was organized in January 2019 to meet the needs of companies, the university, and students in the area. At the time there were no copying businesses in the area, and Richard saw this as an opportunity to become his own boss after many years of working as a mechanic for the local bus company. Richard remortgaged his home for $55,000. This money was invested in the share capital of RPP. He also borrowed money from relatives to get the business started. With the money, Richard was able to purchase the computers, printers, copiers, and scanners needed to provide the full range of quality services that he thought his customers would need. Most of the equipment he purchased was used, which greatly reduced startup costs. He also purchased the furniture and fixtures needed to set up a functional and attractive place for the business. As of December 31, 2020, RPP still owed Richard's relatives $100,000. Richard personally paid $3,800 interest for each of the last two years on the additional mortgage on his home. RPP now needs a loan for two reasons. First, some of Richard's relatives want their loans repaid. Since the business is now on its way, Richard thinks RPP can repay some of the money it owes. Second, Richard would like to upgrade some of RPP's equipment and obtain some additional pieces of equipment In addition to providing copying and printing services, RPP sells a variety of stationery and office products, and provides assistance in designing documents and other printed materials. RPP operates long hours to provide high-quality customer service as well as to complete customer orders. More than one person has to be on duty at all times to ensure that production can be done while customers are being served, and so that pickups from and deliveries to customers can be made. Richard tries to be in the store as much as possible, but he is not able to be there all the time. His wife works in the store about 15 hours per week. The store is operated by employees only (neither Richard nor his wife are present) for about 25 hours per week, mostly at non-peak times. Richard spends a lot of time trying to attract new customers. He regularly visits businesses in the area to meet the decision makers, often treating them to an evening out or a meal. About 40% of the advertising and promotion budget goes toward this type of activity. The remaining money is spent on advertising in community newspapers, sponsorship of various community activities, and printing and delivering flyers to businesses in the vicinity. EXHIBIT I (continued) SUMMARY NOTES OF THE DISCUSSION WITH RICHARD Richard is satisfied with the performance of his business. He thinks that it has grown nicely since its inception and anticipates that it will be profitable soon. In the meantime, his wife, Allison, has to continue to work as a clerk for another retail business to support the family. Richard and Allison have two children, aged nine and seven. The neighbour provides child care when the parents are at work and they pay her $7,000 per year. Allison performs RPP's accounting and prepares a yearly income statement. Allison has little training in accounting. RPP has never filed a tax return because Allison did not think it was necessary to file such a return until there was a profit to report. Customers can pay by cash or by credit card, or RPP will provide credit to any customers who ask. About 25% of RPP's business is for cash, 25% is on credit cards, and the remainder is on credit offered by RPP. RPP asks customers to pay within 10 days, but often they do not. When a sale is completed, it is rung up on the cash register. When Richard and Allison are in the store, they are the only ones who operate the register. Richard admits that, because he is in too much of a hurry, he sometimes puts the cash in his pocket rather than take the time to ring up the sale. Having cash in hand allows him to pay his babysitter and other personal expenses. Though it was hard for him to be certain, Richard estimated that transactions worth about $10,000 each year have been handled in this way. When Richard and Allison are out of the store, the cash is controlled by one of the employees. That employee is required to lock up for the day, and is instructed to count the cash in the register and then lock it in a drawer in Richard's office. Richard has a lot of confidence in his employees, most of whom are students attending university and working part-time to make money. Allison records the revenue by adding up the deposits made to the company's bank account during the year. Amounts owed by customers are recorded at the time of delivery on a specially designated sheet of paper kept by the cash register. As cash is received, the related balance on the list is reduced. The accounts receivable balance on December 31 is the total amount on the list on that date. On December 31, 2020, there was $16,200 on the list and on December 31, 2019, the amount was $11,505. When Allison prepared the income statement, she included a bad debt expense of $1,955 in 2019 and $2,754 in 2020, the amounts being estimated at 17% of the accounts receivable balance. EXHIBIT I (continued) SUMMARY NOTES OF THE DISCUSSION WITH RICHARD Richard obtained a corporate credit card on which he makes RPP's purchases. Items purchased on the credit card are expensed in the year as long as a statement is received from the credit card company before Allison prepares the year-end income statement. If the statement comes in after that time, the expenses will get picked up the following year. Richard sometimes makes personal purchases on the corporate credit card if he thinks he is too close to his credit limit on his personal credit card. Richard estimates that he charged about $4,000 of personal expenses to the corporate credit card in each of the last two years. In addition, Richard has taken about $25,000 in cash each year from the business for personal reasons. Allison included these amounts in the Payments to Employees item on the income statement. Richard says he has not filed a personal tax return since he started RPP. RPP maintains supplies of paper, toner, bindings, and other materials used to meet customers printing and photocopying needs. In addition, there is an inventory of merchandise that RPP sells to customers. Richard determines what he needs for inventory by doing a visual check of the storeroom every few days. When he needs particular items, he calls the suppliers who are usually able to deliver the goods within a few days. On occasion, Richard has to go to a large business supply store because he has run out of needed stock before the supplier can deliver the goods, and he pays for these purchases with the corporate credit card. Allison determines the cost of merchandise sold during a year by adding up the amounts on the invoices received from the suppliers. The amount of inventory on hand at the end of each year is counted so that Richard can get a clear idea of what he has on hand. I told Richard that we needed the inventory value on December 31, 2020 and 2019. He determined the value of the inventory by using the list of what was in the stock room on December 31 and applying prices from the most recent supplier price lists. On December 31, 2020, RPP had inventory of $12,222 and on December 31, 2019, the balance was $8,200. Richard pays suppliers invoices in full as soon as they are received. Richard explained that he is afraid to miss a payment because suppliers may stop supplying. He figures that paying the bills as soon as they are received is the best way of avoiding the problem. Employees are paid minimum wage. Since it is easier for Allison, employees are paid their gross earnings by cheque at the end of each week. EXHIBIT II INCOME STATEMENT SUPPLIED BY THE CLIENT RICHARD'S PROFESSIONAL PRINTSHOP LTD. INCOME STATEMENT For the year ended December 31 2020 2019 Sales 360,547 $ 260,034 124,984 42,204 90,099 10,000 Cost of merchandise sold Selling, general and administrative Payments to employees Computers, printers, copiers and scanners Furniture and fixtures Advertising and promotion Utilities Interest on loans from relatives Bank charges Rent Bad debt expense Other expenses 34,727 18,300 5,000 2,000 22,000 2,754 16,618 96,212 35,249 83,740 85,000 15,000 29,503 17,900 5,000 1,500 22,000 1,955 12,444 368,686 405,503 Net loss $ (8,139) $ (145,469)