Income Statement

Benjamin O'Henry has owned and operated O'Henry's Data Services since its beginning ten years ago. From all appearances, the business has prospered. In the past few years, you have become friends with O'Henry and his wife. Recently, O'Henry mentioned that he has lost his zest for the business and would consider selling it for the right price. You are interested in buying this business, and you obtain its most recent monthly unadjusted trial balance which follows:

O'Henry's Data Services Unadjusted Trial Balance November 30, 20XX

Cash.................................... $9,700
Accounts receivable........................... 7,900
Prepaid expenses............ 2,600
Furniture, fixtures, & equipment 151,300
Accumulated depreciation $15,600
Accounts payable............ 3,800
Salary payable..................
Unearned service revenue 6,700
Benjamin O'Henry, capital 137,400
Benjamin O'Henry, withdrawals 2,000
Service revenue............ 14,300
Rent expense...............
Salary expense............ 3,400
Utilities expense......... 900
Depreciation expense
Supplies expense......
Total................................................. $177,800 $177,800

Revenues and expenses vary little from month to month, and November is a typical month. Your investigation reveals that the unadjusted trial balance does not include the effects of monthly revenues of $2,100 and monthly expenses totaling $2,750. If you were to buy O'Henry's Data Services, you would hire a manager who would require a monthly salary of $3,000.

The most you would pay for the business is 20 times the monthly net income you could expect to earn from it. Compute this possible price. The least O'Henry will take for the business is his ending capital. Compute this amount. Under these conditions, how much should you offer O'Henry? Give your reason.

Length 3 paragraphs. Include your references.

Instructor Comments:
In the O'Henry assignment you must create an income statement and a statement of owners equity (do not create a balance sheet).

First, you need to create an income statement for the buyer. You need this for 2 reasons; (1) to determine the monthly net income you would pay (times 20) for the business, and (2) the net income figure needs to be "closed out" and "turned into" retained earnings which are part of the calculation for ending capital (a.k.a., owners equity). Look at the text, page 147, to determine what accounts go on the income statement (revenue and expenses only, please). Then take the net income figure multiplied by 20 to determine the amount the buyer is willing to pay for O''Henry''s business. REMEMBER, the buyer needs a manager, so the cost of the manager needs to be included in the income statement as well as the monthly revenue and expense figures discussed in the narrative of the assignment.

Next you need to determine how much O''Henry wants for the business. The least O''Henry will take is his ending capital. Capital (or owners equity) is calculated as follows: beginning capital (owners equity) plus retained earnings less any withdrawals or dividends = ending capital (or owners equity). For a good example see page 147 of the text. REMEMBER that the net income figure you use to calculate how much O''Henry wants for the business should not include the cost of the manager, since O'Henry does not need the manager.

In any business transaction you can negotiate the price. Finally, make sure you remember to discuss how much should you offer O''Henry and give your reason.