Directions are in bold at the top, sorry if thhe financial statements at the bottom are all over the place i couldnt figure out how to format it neatly, but the question is complete and everything needed to asnwer is included!! Will give thumbs up any help is appreciated :) thanks!!

Part 1 Analysis and Potential Actions

In order to determine if Meghans concerns are valid you must perform vertical and horizontal analysis on the financial statements. Changes should be checked to determine if they are consistent with the facts given in the case. Any significant inconsistent changes should be flagged for further investigation. A change may be significant either because of an absolute dollar amount or percentage.

Once you determine which items warrant further investigation, you must consider how those items can be investigated. To that end, identify 3 or more possible causes for the changes you have identified. For each possible cause indicate how you could verify if it is an actual source of the observed inconsistency.

WHATS HAPPENING TO PROFITS AT CAZENOVIA CREATIONS?

INTRODUCTION

Annually your firm, Smith & Jones, CPAs, come in to prepare a year end compilation of the financial statements and the Sub S corporation tax return for Cazenovia Creations. This past year the owner, Meghan McGuire, has become concerned because the sales figures year over year have been growing significantly but net income does not seem to be keeping pace. Her best sales quarters are usually around Valentines Day and the Christmas season. . The 2012 Christmas season was particularly good and she had expected a sizeable increase in net income for the year. Meghan has asked for your assistance in determining why the net income for 2012 has not been as good as expected. She has provided you with comparative financial statements and transaction data (purchases, sales, and payroll) for the last seven months of 2012 in an Access database.

BRIEF HISTORY OF CAZENOVIA CREATIONS

Meghan McGuire started selling her jewelry at Craft Shows throughout the Northeast in the 1990s. Her desire was to create wearable art that would be timeless and unique. As her jewelry became more popular, she started Cazenovia Creations selling hand crafted jewelry from other artisans as well as her own designs. Over the next decade, her company grew to become the largest independent seller of hand crafted jewelry in western NY, Ohio, and Pennsylvania. As the business grew Meghan found that she no longer had the time to go to Craft Shows but instead needed to concentrate her efforts on managing the business. She employed several sales representatives who placed the jewelry in boutique clothing/accessory stores located primarily in malls. Meghan also hired two people to interface with the existing jewelers as well as to identify potential new craftspeople. . Soon Cazenovia Creations was purchasing and placing pottery, blown glass, woven items and woodcrafts.

As the business grew Meghan realized she did not want to spend her time on administration. She was much happier designing the jewelry that was the backbone of the business. In order to return to her creative pursuits, Meghan hired Sylvia Somerset, a retired bookkeeper/office manager. Sylvia was highly recommended to Meghan by one of Cazenovia Creations biggest customers. Sylvia had retired from her previous position several years ago when her husband had become chronically ill and had decided to return to the workforce just when Meghan was hiring.

Over time, Meghan grew to rely on Sylvia and gave her more and more of the day to day responsibilities of running the business. Sylvia lived up to her reputation as a reliable employee and often seemed like a wise financial advisor and almost parental figure to Meghan. Sylvia was never late or absent and hadnt even taken a vacation in the time she had been with the company.

When she was hired, Sylvia recommended to Meghan that they use online banking and a database accounting system with remote access (the tables included in the database are given at the end of the case). In addition to the cost benefits to the company, this step would allow Sylvia to work from home if her husbands illness did not allow him to be alone. Meghan agreed that this would be a significant improvement.

REVENUE CYCLE

Meghan, with Sylvias assistance, has divided the region into 4 sales territories and has hired representatives to travel to boutique stores throughout the region to sell both Meghans jewelry and the work of other artisans. Because many of these artisans are solo craftspeople they are willing to sell to Cazenovia Creations at a price lower than normal retail in exchange for Cazenovia Creations placing these items in the various boutique stores on their behalf. Cazenovia also handles billing and collection, taking the credit risk for these sales. The gross profit on sales varies from a high of 42% to a low of 25% depending upon the product line. Based upon the normal product mix the overall gross profit averages between 31-33%.

Steps in the revenue cycle:

The territory sales reps bring samples of Meghans and the artisans work with them to the boutique locations and take orders for the various products.

Sylvia checks the credit record of the boutique stores, adds new stores if they meet the credit requirements, and approves orders from qualified customers.

Sylvia prepares Cazenovia Creations purchase orders twice a month to go to the craftspeople.

The craftspeople ship the products directly to the boutique stores with a copy of the shipping notice going to Sylvia.

Sylvia is copied on an electronic receiving report generated by each boutique.

Sylvia maintains the inventory records and price files for all items.

Sylvia matches the shipping and receiving reports, records the corresponding purchases and sales, and creates invoices.

The sales to all boutiques are made with n/30 credit terms.

Sylvia follows up with delinquent accounts and determines any bad debt write-offs that are necessary.

Cazenovia Creations as an entity does not maintain any inventories. Instead the sales representatives take orders for the products of the various vendors and then arrange direct shipment from the vendors to the retail customers. Because of the direct ship nature of all sales/inventory purchases the following entries were made in the previously used manual system (prior to Sylvia converting the records to a database):

Cost of goods sold XXXX

Accounts Payable XXXX

Accounts Receivable XXXX Sales- Other Crafts XXXX

This accounting is now done in the database system which is summarized to produce the general ledger.

Miscellaneous customer and vendor information:

Meghan has satisfied her re-dedication to jewelry design in two different ways. She creates individual high end pieces on a custom commissioned basis (these sales are not accounted for on Cazenovia Creations books). These high end custom orders allow her to satisfy her creative aspirations and are reported by Meghan as a sole proprietor. In order to appeal to a broader market, she also designs more moderately priced earrings and bracelets. Meghan outsources the manufacture of these items to a local workshop (Caporale, Vendor #1453). Caporale mass produces Meghans creations that the sales representatives market to the boutique stores. Since Caporale direct ships the products to the various boutique stores, the accounting is handled in the same manner as for the outside craftspeople.

One of the major customers for Cazenovia Creations products is a chain of 25 mall based boutique stores, MaBou. . All of the invoicing for the purchases of the entire chain is processed by the parent company. There are currently over 60 total customer stores, including the 25 associated with the MaBou chain.

VENDOR FILES

Cazenovia Creations has grown substantially every year for the past five years, encompassing four sales territories in the tri-state area. Cazenovia rents space at $2,500 per month and incurs operating expenses for Meghans local workshop and office space for Sylvia and the purchasing agents.

There are currently 19 craftspeople that market their products through Cazenovia Creations including Caporale (the vendor which manufactures Meghans creations). Cazenovias purchasing agents determine what products to carry and negotiate pricing and terms of purchase. In addition to working with the current craftspeople, the two purchasing agents seek out new craftspeople.

The vendor transactions are processed as follows:

Sylvia adds new and maintains existing craftspeople vendor records.

Sylvia also establishes and maintains the other vendor records for regular operating expenses.

Sylvia pays all purchase invoices on a timely basis after matching shipping documents to the receiving reports from the boutique stores.

Payments made on 6/15/2012 pertain to the Accounts Receivable on 5/31/2012, the detail of which is not available.

Sylvia pays the operating expense vendors once monthly on varying due dates.

PAYROLL SYSTEM

Cazenovias employees include Sylvia, the two purchasing agents, and four sales representatives. The sales representatives are often craftspeople themselves who were having a difficult time making ends meet simply from selling their crafts. The sales position enables them to earn extra cash while still pursuing their own creations. Meghan has thus been able to hire very knowledgeable representatives at fairly low compensation. For 2011 and 2012 each sales representative earned a base pay of $1,600 per month and a 10% commission on sales. The purchasing agents also each earn a monthly salary of $1,600. Sylvia earns $2,800 per month. All employees utilize the direct deposit system that Sylvia has set up for payroll. The sales reps base pay and the salaries of other employees are paid semimonthly. Sales commissions earned are paid electronically on the last day of the month in a separate direct deposit.

Payroll transactions are processed as follows:

Sylvia maintains all payroll records. She adds new employees, maintains pay rates, records terminations, computes the semimonthly payrolls, and calculates and enters the commissions due to the sales representatives.

Sylvia is responsible for ensuring that all tax withholdings and liabilities are properly computed and forms are timely filed.

TRAVEL EXPENSE REIMBURSEMENTS

Cazenovia Creations also reimburses the sales representatives for travel expenses incurredmileage at $.50 per mile and occasional meals and lodging in the local area when the sales representatives need to come to the home office for updated product training and sampling. Sylvia approves the travel expense requests of the sales reps and reimburses those expenses on a monthly basis.

FINANCIAL REPORTING

The financial statements are prepared by Sylvia for Meghans review. Meghan originally operated her business as a sole proprietorship and then had elected at the beginning of 2011 to operate as an S corporation Meghan did not take a salary in either 2011 or 2012. For both years, she has taken a monthly distribution of $4,000 from the S corporation. Purchases and sales are recorded on an accrual basis but other operating expenses are recorded on a cash basis. Meghans workbench, various tools, office furniture and equipment have all been owned for several years and are currently fully depreciated to their remaining salvage values.

Cazenovia Creations
Income Statements for:
	Year ending	Year ending
	12/31/2012	12/31/2011
Sales - Meghan's Products	$347,111	$321,560
Sales - Other Crafts	1,340,944	1,123,547
Total Sales	1,688,055	1,445,107
Cost of Goods Sold:
Meghan's Products	238,695	214,802
Other Crafts	964,647	773,000
Total Cost of Goods Sold	1,203,342	987,802
Gross Profit	484,713	457,304
Operating Expenses:
Salary Expense	158,672	148,800
Commission - Sales Reps	164,044	140,175
Payroll Taxes	27,721	26,008
Utility Expense	12,318	11,214
Rent	30,000	30,000
Insurance Expense	2,760	2,660
Travel Expenses	28,258	25,468
Postage and Supplies	1,524	1,426
Advertising	3,725	2,750
Total Operating Expenses	429,022	388,502
Net Income	$55,691	$68,803
Cazenovia Creations
Statement of Retained Earnings for
the Year ended 12/31/2012
Retained Earnings January 1, 2012		$52,582
Add: Net Income		55,691
		108,273
Less: Distributions to Owner		(48,000)
Retained Earnings December 31, 2012		$60,273