Austin Custom Ceramics

The last pieces of a twenty-foot-long decorative brick wall were just coming out of the firing kiln. Julian Bentley jumped as the telephone rang, dropping the last brick for the wall, but fortunately, it did not break. Julian answered the phone. It was Mr. Reynolds, a venture capitalist.

Your funding is just about in place, Reynolds said. Just bring in the business plan and we can get the paper work finalized.

Reynolds had really gone out on a limb for Julian getting the potential funding. He had been a satisfied customer from way back. Four years ago, when Reynolds bought his dream house in Williamsburg, he had been exceptionally impressed by an interior wall of relief sculpture done in brick. He had called the contractor for the house and found out about Julian, who had produced the brick. He contracted Julian to do another relief sculpture and a mosaic tile work and was favorably impressed by both.

In fact, it was Reynolds suggestion that Julian consider expanding the business. Initially, Julian had considered himself to be a starving artist, making enough money to survive while doing what he loved to do: work with ceramic arts. He had not counted on a continuing stream of contract from Williamsburgs prestige-seeking residents. Initially, he had worked on a few small projects for extra money while running a craft shop on Route 60 just south of Williamsburg. He sold ceramic items custom make by him, and products made by other local artists.

A milestone event happened five years ago, however. A shop patron who Julian really didnt like much had seem some of the small project Julian had done for an executive for Castle Green Country Club, and just had to have an original brick work in her house. Julian, not wanting anything to do with the customer, quoted a ridiculously high price for the requested work. To Julians surprise, she had immediately written a check for half of the price, and said she would pay the rest upon completion of the job. Word of mouth soon found Julian enjoying plenty of brick and mosaic jobs at premium prices. He had a six-month backlog of work, and was running his ceramic kiln all day, every day, except for increasing downtime when the kiln needed maintenance and repair.

The need for new productive equipment and employees to handle the non-artistic aspects of the business became increasing apparent. Julian felt that he could meet his current demand, and even expand his business by investing in better production equipment. He had also considered making molds for certain designs that had a special appeal, and producing limited runs of the design. It would not be custom work, but Julian felt there may be a demand for limited run brick art as well.

Julian freely admitted that he was not a very effective businessman, and certainly had no idea how to create a business plan, particularly the financial Pro Forma statements required for final loan approval. So he asked for help from an old friend, Gary Lester, who was the Vice President of Finance at a local manufacturing company.

Generally, when Gary was evaluating a project he and his team developed a detailed feasibility study. He proposed creating a similar document for Julian. As was typical in a major undertaking of this type, the proposal would need to include detailed cost and revenue estimates with sufficient documentation to substantiate the numbers. Gary knew that he had better take every possible factor into consideration and be prepared for tough and demanding questions from the bank. So Julian and Gary began collecting the necessary information. They knew that to have a comprehensive feasibility study they would have to include the following:

Pro Forma statements showing expected annual revenues, variable costs, fixed costs, and net cash flows over the economic life of the project with appropriate supporting documentation;

Based on the data provided by Julian and the Manufacturer of the new Kiln, they prepared Table 1, showing the expected sales over its 10-year economic life and the expected selling price per job. Depreciation for this project was based on the 7-year MACRS rates as shown in Table 2. Julian estimated that he would need three 78 cubic foot gas kilns that cost $42,000 each. The cost shipping, handling, and installation, was estimated at $7,300 for the all three. It was estimated that after 10 years, the equipment and tools could be sold as scrap metal for about $3,000 a piece.

The kilns would require additional space. Available space in the area could be leased for $5,000 per month. Cost of production for both the Custom Art is 50% of the price and the Special Appeal Molds is about 40% of the price. Design Time for each Custom piece is about 50 hours. When Julian is working for contractors, he charges $100/hour. Some of the additional expenses that Julian and Gary identified include wages for the non-artistic workers. They expect that those costs will start at about $5,000 a year. Wages will be indexed with the CPI and increase at about 3% annually. Julian also agreed that he would need some more operational expense: Annual increase would include $1,500 in Advertising, $2,200 additional insurance premium, $600 more for equipment repair and about $800 more for general supplies. To get the project underway, some of the Special Appeal molds inventory of $10,500 would be required and would be paid for by an increase its accounts payable by $4,200. Once sales begin, Julian and Gary estimate that each year there after, the net working capital of the firm would amount to 6% of the next year sales for Special Appeal Art. The venture capitalist is looking for a return of about 18%. The companys tax rate is 34%.

Table 1

Projected Sales for Custom Art

Year	Unit Sales	Unit Price
1	16	$7,000
2	17	7,300
3	19	7,500
4	20	7,760
5	22	8,000
6	24	8,240
7	26	8,500
8	28	8,800
9	24	9,100
10	20	9,400

TABLE 1a Projected Sales for Special Appeal

Year	Unit Sales	Unit Price
1	5	$4,200
2	6	4,300
3	7	4,500
4	8	4,600
5	9	4,800
6	10	4,900
7	11	5,100
8	12	5,300
9	14	5,400
10	15	5,600

Table 2

Modified ACRS Depreciation Allowances

Year	3-Year	5-Year	7-Year
1	33.33%	20.00%	14.29%
2	44.44	32.00	24.49
3	14.82	19.20	17.49
4	7.41	11.52	12.49
5		11.52	8.93
6		5.76	8.93
7			8.93
8			4.45