Jeff Ritchie and Ryan Collins have just finished fourth-year university and are passionate about starting their own business. Jeff has a bachelor of commerce degree and specialized in marketing. Ryan also has a bachelor of commerce and specialized in accounting. After a significant amount of research, they have two potential ideas. Their first idea is to manufacture hockey sticks and their second idea is to make a gluten-free energy bar. They have already rented a manufacturing facility; 80% of the space will be used for manufacturing the product and 20% will be for administration. In order to get enough funding to start up their business, Jeff and Ryan have booked a preliminary meet-ing with the bank to determine if either of the ideas would allow their company to be eligible for a bank loan. The bank has asked them to prepare a schedule of the estimated costs associated with each of the ideas and to classify each cost as either a product cost or a period cost, and as either a fixed cost or a variable cost. The bank tends to favour ventures that have a low amount of fixed period costs relative to sales earned. Ryan and Jeff had prepared a pro forma income statement (Exhibit 1) for each option, but did not think to classify the costs in the manner that the bank had requested. As Ryan has a strong accounting background, he off ered to prepare a memo to the bank with the cost classifications it is asking for. Jeff also asked him to determine which venture he believes the bank will favour.

Assume the role of Ryan and write a letter to the bank addressing its request. Also write a letter to Jeff describing which manufacturing venture would likely be favoured by the bank.

 

EXHIBIT 1- PRO FORMA FINANCIAL STATEMENTS Annual Pro Forma Income Statement Hockey Sticks *Assumes 60,000 hockey sticks are sold per year Sales $6.420.000 Fibreglass Graphite 1,200,000 1,080,000 Kevlar 642,000 Depreciation-Vehicles 7,500 Depreciation-Equipment Depreciation-Office furniture Depreciation-Computers Distribution expenses 28,000 3,000 2,500 260,000 Janitorial expenses 80,000 Wages-Ryan (administrative) 42,000 Wages-Jeff (administrative) Wages-Assembly workers Wages-Quality assurance staff Marketing expenses 42,000 900,000 510,000 55,000 Rent 60,000 Income S1,508,000 Annual Pro Forma Income Statement Gluten-Free Energy Bars *Assumes 850,000 gluten-free energy bars are sold per year Sales $2,541,500 Ingredients Packaging Food inspection costs 416,500 102,000 187,000 Depreciation-Equipment 30,000 Depreciation-Vehicles 7,500 Depreciation-Office equipment 4,000 Depreciation-Computers Janitorial expenses Wages-Ryan (administrative) Wages-Jeff (administrative) Wages-Quality assurance 1,400 10,000 42,000 42,000 765,000 Marketing expenses 55,000 Rent 60,000 Income $ 819,100