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You are a loan officer for First Benevolent Bank. You have an uneasy feeling...

You are a loan officer for First Benevolent Bank. You have an uneasy feeling...

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Author: Jean Brunner
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You are a loan officer for First Benevolent Bank. You have an uneasy feeling as you examine a loan application from Daring Corporation

You are a loan officer for First Benevolent Bank. You have an uneasy feeling as you examine a loan application from Daring Corporation. The application included the following financial statements.
 
DARING CORPORATION Income Statement For the Year Ended December 31, 2011
Sales revenue $100,000
Cost of goods sold (50,000)
Depreciation expense (5,000)
Remaining expenses (25,000)
Net income $20,000
 
 
 
DARING CORPORATION Balance Sheet December 31, 2011
Cash $5,000
Accounts receivable 25,000
Inventory 20,000
Depreciable assets 55,000
Accumulated depreciation (5,000)
Total $100,000
 
 
 
Accounts payable $10,000
Interest payable 5,000
Note payable 45,000
Common stock 20,000
Retained earnings 20,000
Total $100,000
 
 
 
It is not Daring's profitability that worries you. The income statement submitted with the application shows net income of $20,000 in Daring's first year of operations. By referring to the balance sheet, you see that this net income represents a 20% rate of return on assets of $100,000. Your concern stems from the recollection that the note payable reported on Daring's balance sheet is a two-year loan you approved earlier in the year.
You also recall another promising new company that, just last year, defaulted on another of your bank's loans when it failed due to its inability to generate sufficient cash flows to meet its obligations. Before requesting additional information from Daring, you decide to test your memory of the intermediate accounting class you took in night school by attempting to prepare a statement of cash flows from the information available in the loan application.


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