Problem
Case:
Jim and Naomi own a Capitol Coif hair salon located in a Washington DC with tremendous local competition. As a result, Jim normally devotes at least 10 percent of his budget to advertising and marketing. His marketing efforts are concentrated in two general areas: He advertises through social media and, in addition, he mails out coupons (good for 10 percent off highlights) to every household within a one-mile radius of his business.
In 2020, following the pandemic quarantine, Jim sues his wife for divorce.
You, a forensic accountant, are hired to review the company's books, and gains access to them in early 2021.
Additional facts:
1. Assume any potential business decline in 2020 is explained by Jim as due to local restrictions on salons to prevent the spread of COVID-19.
2. The main supplier of salon supplies and cleaning supplies changed in early 2020. These invoices show an increase in the quantity of chemicals ordered by Jim and, in addition, an increase in price from what he had been paying previously.
3. Other expenses contains a mix of laundry services, answering service costs, website maintenance and chemical expenses for a new hair treatment the salon will be offering in February 2021.
4. The loan was used by Jim as a down payment on a beach house in the Hamptons. This house is in Jim's name alone and other than the down payment, he has no equity in this property.
5. Jim works solely for the hair salon. Naomi is a high school teacher.
Task
A. Review the following detailed records and discuss 3 red flags.
B. How would you go about analyzing the legitimacy of the claim that resulted in a business decline?
C. How would you demonstrate that the figure for supplies may be incorrect?
D. How would you treat the loan in valuing the company?
E. How might the couple's tax returns come into play?