Albergo del Mare began operating on January 1, 2013. On December 31, 2014, it reached the end of its second fiscal year. With a good reputation, a competent staff, and fairly good occupancy, the hotel had done well financially during both years. Innkeepers Giuseppe Siri and Valentina Farneti, who managed the inn, were completely dedicated to providing the best service possible to their guests, but th ey were not the least bit interested in keeping accurate financial records.

Seeing a low cash balance in the checkbook, Siri and Farneti asked their local bank for a loan. The bank, in turn, requested the hotel’s financial statements. The statements were presented in the format shown in Exhibit 1. Upon viewing the statements, the bank found them to be much too general. It insisted on additional information before a loan could even be considered—information dealing with depreciation, accruals, inventory counts, and other similar matters.

Siri and Farneti were amazed. They had not anticipated any problems regarding their loan request. After feverishly reviewing their records and supporting statements (with some expert assistance), they uncovered the following information: