Using Financial Reports: Analyzing Financial Information in a Sale of a Business (A Challenging Case)
Crystal Mullinex owns and operates Crystal€™s Day Spa and Salon, Inc. She has decided to sell the business and retire. She has had discussions with a representative from a regional chain of day spas. The discussions are at the complex stage of agreeing on a price. Among the important factors have been the financial statements of the business. Crystal€™s secretary, Kenya, under Crystal€™s direction, maintained the records. Each year they developed a statement of profits on a cash basis; no balance sheet was prepared. Upon request, Crystal provided the other company with the following statement for 2012 prepared by Kenya:

Upon agreement of the parties, you have been asked to examine the financial figures for 2012. The other company€™s representative said, €œI question the figures because, among other things, they appear to be on a 100 percent cash basis.€ Your investigations revealed the following additional data at December 31, 2012:
a. Of the $1,215,000 in spa fees collected in 2012, $142,000 was for services performed prior to
2012.
b. At the end of 2012, spa fees of $29,000 for services performed during the year were uncollected.
c. Office equipment owned and used by Crystal cost $205,000. Depreciation was estimated at $20,500 annually.
d. A count of supplies at December 31, 2012, reflected $5,200 worth of items purchased during the year that were still on hand. Also, the records for 2011 indicated that the supplies on hand at the end of that year were $3,125.
e. At the end of 2012, the secretary whose salary is $18,000 per year had not been paid for December because of a long trip that extended to January 15, 2013.
f. The December 2012 telephone bill for $1,400 has not been received or paid. In addition, the $12,200 amount on the statement of profits includes payment of the December 2011 bill of $1,800 in January 2012.
g. The $130,000 office rent paid was for 13 months (it included the rent for January 2013).
Required:
1. On the basis of this information, prepare a corrected income statement for 2012 (ignore income taxes). Show your computations for any amounts changed from those in the statement prepared by Crystal€™s secretary. (Suggestion: Format solution with four column headings: Items; Cash Basis per Crystal€™s Statement, $; Explanation of Changes; and Corrected Basis, $.)
2. Write a memo to support your schedule prepared in requirement (1). The purpose should be to explain the reasons for your changes and to suggest other important items that should be considered in the pricingdecision.

Transcribed Image Text:

CRYSTAL'S DAY SPA AND SALON, INC. Statement of Profits 2012 Spa fees collected Expenses paid: Rent for office space Utilities expense Telephone expense Salaries expense Supplies expense Miscellaneous expenses $1,215,000 $130,000 43,600 12,200 562,000 31,900 12,400 Total expenses 792, 100 Profit for the year $ 422.900