Part 1

Always aspiring to be an entrepreneur, you finally believe you may have found your niche.

While you were polishing off the last of the brownie mix your sister gave you for the holidays last year, you realized that it was the only homemade gift you had gotten for quite some time, and further realized that you had never given a gift made with your own hands. Justifying your absence of creativity to a lack of time, it comes to you that perhaps there would be a market for handmade goodies that people could simply purchase off the shelf and give as special gifts.

You brainstorm with your two roommates and come together with a plan to prepare for the birth of SABCO, Inc., a name created as an abbreviation for Sand Art Brownie Company.

It is early April 2021, and the three of you research the holiday market and decide that all products to be sold for the holiday season must be ready to ship to retailers by October 1, 2021. This will allow the three of you to spend the remainder of the year processing orders.

The three of you determine the following:

1. Each of you will contribute $15,000 on July 1, 2021 (borrowed from relatives) to form a corporation. You realize that another form of business may be less expensive but know that this is just the beginning of a wildly successful business and want to go ahead right away with the incorporation of the business. The par value of the stock is $1.00 and each of you purchase 5,000 shares of stock.
2. You estimate that you can sell the brownies for $15 per container. You believe this price will make the product attractive enough to sell 100,000 containers of product for the 2021 holiday season. All the shareholders agree this would be a competitive price and a fine start to your business.
3. Fifty percent of sales are expected to be taken online and paid by credit card immediately upon ordering. The bank charges a credit card fee of 2% of the transaction. This is considered a selling expense. The other 50% of sales will be sold to a wholesaler who will purchase in bulk at $13.50 per container. They will pay 60% at time of delivery and the remaining 40% will be collected the following month.
4. Your roommate gets to work on building a great website and lays the groundwork to get your website to pop-up based on several appropriate key-word searches such as holiday gifts and brownies. Her hard work results in a one-time website fee of $10,500 in July, and $100 per month in maintenance fees from July December 2021. These costs are not capitalized but expensed immediately because you are sure that the website will have to be completely revamped after the holiday to gear up for the future.
5. Factory space will be rented for a period of five months (July, August, September, October, and November) at $800 per month for production of the Sand Art Brownies. Utilities for the space are estimated to be $300 each month which you are also responsible for per the lease agreement. After the five months of production, the equipment will be stored in your garage, until the next holiday production rush. Due to the perishability of your product, your production must also be seasonal.
6. Equipment required to run the factory is needed up front and will cost $18,000. The equipment will be depreciated over 5 years under the straight-line method. The salvage value will be negligible.
7. Each day, after production, the finished product will be shipped to a fulfillment house that will store the containers until they are shipped. The rent for the agreed upon space at the fulfillment house is $2,500 per month. The rental agreement is for July through December 2021. Included in this fee are order processing charges and shipping and handling fees. Minimal returns after the holiday season are expected, but a return policy on the website instructs customers to ship returned items to your home.
8. A small office will be rented downtown to handle administrative issues, field sales calls, and process online orders. The rent for this space is $250 per month and is leased from July December 2021. Utilities are included in the rent.
9. All bills will be paid immediately with cash, as you suspect credit will not be established early on by your suppliers and this will be the most conservative approach in estimating your cash needs.
10. Each of you will take a salary per month of $3,000. These three salaries will be the only salaries besides the direct labor and factory overhead personnel. (The tax consequences of these salaries will be ignored in this project).
11. To be conservative, you expect to sell the same number of containers each week for 8 weeks (4 weeks in November and 4 weeks in December). You only have capacity to produce 6,000 containers in a week and you want to have at least two weeks of inventory on hand in advance of any sales. Additionally, you would like to run your production at maximum capacity in July, August and September, prior to sales beginning to allow for the unexpected. You only produce enough in October and November to have the expected two weeks of inventory on hand. For simplicity, assume there are four production weeks per month.
12. To make sure that there will be enough product for production, all materials are purchased ahead of production. You decide that after the first month you would like to have enough materials for the first two weeks of production on hand at the end of the preceding month.
13. You know that you will not have enough money to finance the operation until the money from the sales starts to come in. You are in the process of putting together a business plan to include the following for the period from July through December 2021:
    1. Direct labor worksheet
    2. Factory Overhead Worksheet
    3. Job Cost Detail
    4. Production Budget
    5. Direct Materials Budget
    6. Direct Labor Budget
    7. Selling and Administrative Expense Budget
    8. Cash Budget
    9. Budgeted Financial Statements

You mean to provide the business plan to the bank. You expect they will grant you a line of credit to make up your cash shortfalls through the end of the selling season. You will be applying for a line of credit that you can access at the beginning of each month to meet your cash flow needs. Because you are only allowed to draw on your line once a month, you decide that you would like to maintain a cash balance at the end of the month equal to your required purchases the subsequent month. You will make one lump payment at the end of December to pay off your borrowings plus interest at the rate of 6%. Simple interest is accrued and paid at the end of the year.

14. The three shareholders feel comfortable with the plan outlined above; however, no cost studies have been done on the product to determine the cost of sales for each container. The information you do have is a recipe jotted down on the back of a napkin that your sister scrawled out when you asked her for the recipe. The napkin reads as shown in Figure 1.
15. You plan to use a job cost system to capture the costs per batch. A job cost system is chosen over a different cost system because you and your business partners expect the same machinery and production lines will be used for off-season products in 2021 and beyond. Those products are yet to be determined.

From the Financial Projections Template, prepare projected financial statements to take to your potential lenderProjected Income Statement (Table 14), Projected Balance Sheet (Table 15), Projected Statement of Cash Flows (Table 16).

14. Complete a Microsoft Word document detailing the answers to the following questions:

1. How much money do the three stockholders have to borrow from the bank before they start to pay it back? When is the loan first needed, and when will it be completely paid back?
2. How do you feel about this plan? Is there anything not included in the projections besides payroll taxes, interest and taxes, which we purposely excluded? What would interest expense be in 2021, assuming a 6% rate, with borrowings or payments at the end of each month? Show your calculation. What would income tax expense be, assuming a tax rate of 30%? Would you be comfortable in starting the business?
3. SABCO, Inc. chose to use a job order cost system due to smaller production runs and potential shared machinery and equipment with other potential products in the future. Explain why a different cost system might be more appropriate if SABCO decided to customize the brownies by the optional additions of either candy-coated chocolates and/or nuts? How would its production data have looked different using an alternative cost system?
4. Calculate the break-even in dollars and units for the company. You and your partners decide that you would each like to make $30,000 in the first year ($90,000 total net profit). Calculate the break-even in dollars and units for the target profit.
5. Why is there a remaining raw materials inventory in your budget? Is this appropriate? If no, why? Should you change some of your assumptions about raw materials?

Table A13 Noy Dec Financial Statement Projection Template BALANCE SHEET PROJECTION July August Sept Oct Current Assets Cash (Use your cash budget as a check figure) Accounts Receivable Materials Inventory Manufacturing overhead Work in Process Finished Inventory - FH Total Current Assets NonCurrent Assets Equipment Accumulated Depreciation Total non-Current Assets Total Assets Bank Line of Credit Total Liabilities Common Stock PIC - In Excess of Par Retained Earnings (Net Deficit) Total Shareholder's Equity Total Liabilities & Shareholder's Equity INCOME STATEMENT PROJECTION Sales Cost of Sales Gross Profit Operating Expenses Administrative Salaries Fullfillment House Expense Credit Card Expense Internet Expense Office Rent Interest expense Total Operating Expenses Net Income (loss) Table A14 SABCO, Inc. PROJECTED INCOME STATEMENT For the Year Ended December 31, 2021 Revenue Sales Cost of Sales Gross Profit Operating Expenses Administrative Salaries Fullfillment House Expense Credit Card Expense Internet Expense Office Rent Interest expense Total operating Expenses Net Income Table A15 SABCO, Inc. PROJECTED BALANCE SHEET December 31, 2021 ASSETS Current Assets Cash Materials Inventory Finished Inventory - FH Total Current Assets Non-Current Assets Equipment Accumulated Depreciation Net Book Value Total Assets LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities Bank Line of Credit Total Liabilities Stockholders' Equity Common Stock PIC - In Excess of Par Retained Earnings Total Shareholder's Equity Total Liabilities & Shareholder's Equity Table A16 SABCO, Inc. PROJECTED STATEMENT OF CASH FLOWS For the Year Ended December 31, 2021 Cash Flows from Operating Activities: Net Income Adjustments to reconcile net income to net cash flow from operating activities: Depreciation Net Cash flow from Operating Activities: Cash Flows from Investing Activities: Cash paid to purchase equipment: Cash flows from financing activities: Cash received from sale of common stock Increase in Cash Cash at the beginning of the year: Cash at the end of the year: Table A13 Noy Dec Financial Statement Projection Template BALANCE SHEET PROJECTION July August Sept Oct Current Assets Cash (Use your cash budget as a check figure) Accounts Receivable Materials Inventory Manufacturing overhead Work in Process Finished Inventory - FH Total Current Assets NonCurrent Assets Equipment Accumulated Depreciation Total non-Current Assets Total Assets Bank Line of Credit Total Liabilities Common Stock PIC - In Excess of Par Retained Earnings (Net Deficit) Total Shareholder's Equity Total Liabilities & Shareholder's Equity INCOME STATEMENT PROJECTION Sales Cost of Sales Gross Profit Operating Expenses Administrative Salaries Fullfillment House Expense Credit Card Expense Internet Expense Office Rent Interest expense Total Operating Expenses Net Income (loss) Table A14 SABCO, Inc. PROJECTED INCOME STATEMENT For the Year Ended December 31, 2021 Revenue Sales Cost of Sales Gross Profit Operating Expenses Administrative Salaries Fullfillment House Expense Credit Card Expense Internet Expense Office Rent Interest expense Total operating Expenses Net Income Table A15 SABCO, Inc. PROJECTED BALANCE SHEET December 31, 2021 ASSETS Current Assets Cash Materials Inventory Finished Inventory - FH Total Current Assets Non-Current Assets Equipment Accumulated Depreciation Net Book Value Total Assets LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities Bank Line of Credit Total Liabilities Stockholders' Equity Common Stock PIC - In Excess of Par Retained Earnings Total Shareholder's Equity Total Liabilities & Shareholder's Equity Table A16 SABCO, Inc. PROJECTED STATEMENT OF CASH FLOWS For the Year Ended December 31, 2021 Cash Flows from Operating Activities: Net Income Adjustments to reconcile net income to net cash flow from operating activities: Depreciation Net Cash flow from Operating Activities: Cash Flows from Investing Activities: Cash paid to purchase equipment: Cash flows from financing activities: Cash received from sale of common stock Increase in Cash Cash at the beginning of the year: Cash at the end of the year