In the middle of January 2021, Mark Mbeke, the owner of Mbeke’s Hardware Store, decided to expand the business by buying out a local lumberyard. To finance the purchase, Mark had to obtain financing from a local bank. The bank asked Mark to provide financial statements for the year ended December 31, 2020, as support for the loan application.

Over the last year, Mark was so busy managing the store that he had no time to review the financial aspects of its operations. However, when the company’s bookkeeper provided him with a set of hastily prepared financial statements for 2020, Mark was pleasantly surprised to see that the hardware store’s net income had increased from $60,000 in 2019 to $90,000 in 2020. He commented, “With financial results like these—a 50% increase in income during the past year—we should have no trouble getting the loan.” However, further investigation revealed the following:

1. On January 2, 2021, the company repaid a $140,000 loan in full, including interest. The loan was a one-year, 10% term loan. No interest expense was recorded in 2020.

2. On January 3, 2021, wages of $10,000 were paid. A review of the time cards shows that these wages relate to work done in the last week of 2020.

3. Goods that originally cost $11,000 and were sold in December 2020 for $15,000 were returned by the customer on January 4, 2021. Accompanying the goods was a letter that stated, “As we agreed on December 30, 2020, these goods are not what we had ordered and are therefore being returned for full credit.”

4. Mbeke’s Hardware received bills totalling $2,000 in the first week of January 2021 for utilities and other operating costs incurred in 2020. They were immediately recorded as accounts payable when they were received.

Mark is concerned that some of these transactions may affect the company’s financial statements for the year 2020 and therefore its ability to obtain the necessary bank financing.

Required

a. Calculate the effect of each of these items on the store’s net income for 2020.

b. By what percentage did the store’s net income increase (or decrease) over the last year?

c. In light of this information, how should Mark proceed?

d. What should the bank do to ensure that it is receiving accurate financial information?