Business Applications Case Preparing and using pro forma statements Mary Helu an

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Business Applications Case Preparing and using pro forma statements

Mary Helu and Randy Adams recently graduated from the same university. After graduation they decided not to seek jobs at established organizations but, rather, to start their own small business hoping they could have more flexibility in their personal lives for a few years. Mary's family has operated Mexican restaurants and taco-trucks for the past two generations, and Mary noticed there were no taco-truck services in the town where their university was located. To reduce the amount they would need for an initial investment, they decided to start a business operating a taco-cart rather than a taco-truck, from which they would cook and serve traditional Mexican-styled street food.

They bought a used taco-cart for $16,000. This cost, along with the cost for supplies to get started, a business license, and street vendor license brought their initial expenditures to $22,000. Ten-thousand dollars came from personal savings they had accumulated by working part time during college, and they borrowed $20,000 from Mary's parents. They agreed to pay interest on the outstanding loan balance each month based on an annual rate of 5 percent. They will repay the principal over the next few years as cash becomes available. They were able to rent space in a parking lot near the campus they had attended, believing that the students would welcome their food as an alternative to the typical fast food that was currently available.

After two months in business, January and February 2016, they had average monthly revenues of $20,000 and out-of-pocket costs of $15,000 for rent, ingredients, paper supplies, and so on, but not interest. Randy thinks they should repay some of the money they borrowed, but Mary thinks they should prepare a set of forecasted financial statements for their first year in business before deciding whether or not to repay any principal on the loan. She remembers a bit about budgeting from a survey of accounting course she took and thinks the results from their first two months in business can be extended over the next 10 months to prepare the budget they need. They estimate the cart will last at least three years, after which they expect to sell it for $4,000 salvage value. Mary agrees to prepare a forecasted (pro forma) income statement, balance sheet, and statement of cash flows for their first year in business, including the two months that have already passed.

Required:

1. Prepare a 12-month pro forma income statement for the company (year ending 12/31/16) based on Mary's comments about her expectations for the business. (You may want to prepare all of your statements using Excel and then upload them.)

2. Prepare a pro forma balance sheet for the company (as of 12/31/16) based on Mary's comments about her expectations for the business. Assume no principal will be repaid on the loan in the current year.

3. Prepare a pro forma statement of cash flows for the company (year ending 12/31/16) based on Mary's comments about her expectations for the business.

4. Review the statements you prepared and explain briefly why actual results for Randy and Mary's business probably will not match their budgeted statements.

Explanation / Answer

Part 1)

The proforma income statement for 12 months is given below:

____________

Part 2)

The proforma balance sheet is given below:

Notes:

1) Since, it is the first year of operation, It is asssumed that all the sales/expenses have been made/paid in cash. Therefore, there is no need for opening accounts receivable and accounts payable account.

2) Preliminary expenses of $6,000 have not been written off as the information on the same has not been provided in the question. Secondly, the value is not very high.

____________

Part 3)

The proforma cash flow statement is given below:

____________

Part 4)

The statements prepared above are purely based on assumptions. There is no historical trend indicating the value of revenues and expenses will continue to occur in the same proportion. Taking first 2 months as the basis for preparation of statements for the entire period of 12 months in the first year of operation cannot be considered as correct. The revenues or costs may increase or decrease in the remaining 10 months. Additional expenditures may be required for meeting average sales of $20,000 per month. Further, the interest cost has not been taken into account. There can be many other factors which may arise as the business progresses.

Proforma Income Statement for the Year Ending 31st December 2016 Revenues (20,000*12) 240,000 Less Expenses (Rent, Ingredients, Paper Supplies, etc.) [12,000*12] 144,000 Depreciation [(16,000 – 4,000)/3] 4,000 Net Income $92,000

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