Screenshot Tops, Inc. The Business Situation After graduating with a degree in business from Rural College in Campus Town, USA, Michael Woods realized that he wanted to remain in Campus Town and start building a life for himself. After a few unsuccessful attempts at getting a job in his chosen discipline, Michael decided to start his own business. Thinking about his business venture, Michael determined that he had four criteria that were most important to him: 1. He wanted to do something that he would enjoy. 2. He wanted a business that would give back to the community. 3. He wanted a business that could grow and be more successful every year. 4. Realizing that he was going to have to work very hard, Michael wanted a business that would generate a minimum net income of at least $25,000 annually. A bit more about Michael: he was president of his fraternity and served as an officer in several other student organizations and clubs. During these experiences, he realized that there was no place in Campus Town to have custom shirts made using a silk-screen process. When student organizations wanted shirts for their members to wear or to sell for fundraising on campus, the officers had to make a trip to Big City, over 100 miles away, and visit Shirts and More. Michael grew up in Big City and worked as a part-time employee at Shirts and More while he was in high school. Back then, he envisioned owning such a shop someday. Michael realized that a shop in Campus Town had the potential to meet all four of his criteria. He set up an appointment with Jayne Stoll, the owner of Shirts and More, to obtain information useful in getting his shop started. Because Jayne liked Michael and was intrigued by his enterprising spirit, she was happy to answer Michaels questions and help him. Jayne provided information concerning the equipment Michael would need for his business and its average useful life. Fortunately for Michael, Jayne knows of a competitor who is retiring at the end of the year and would like to sell his equipment. Michael can purchase the equipment at the beginning of 2022, and the retiring owner is willing to give him terms of 50% due upon purchase and 50% due at the end of the quarter following the purchase. Michael decided to purchase the following equipment as of January 1.

Cost Useful Life Hand-operated press that applies ink to the shirt $7,500 5 yrs. Light-exposure table 1,350 10 yrs. Dryer conveyor belt that makes ink dry on the shirts 2,500 10 yrs. Computer with graphics software and color printer 3,500 4 yrs. Display furniture 2,000 10 yrs. Used cash register 500 5 yrs. Michael has decided to use a shirt supplier recommended by Jayne. He learned that a gross1 of good-quality shirts to be silk-screened would cost $1,440. Jayne has encouraged Michael to ask the shirt supplier for terms of 40% of a quarters purchases to be paid in the quarter of purchase, with the remaining 60% of the quarters purchases to be paid in the quarter following the purchase as this was routine in the industry. Michael also learned from talking with Jayne that the ink used in the silk-screen process costs approximately $0.75 per shirt on average. Knowing that the silk-screen process is somewhat labor-intensive, Michael plans to hire six college students to help with the process. Each one will work an average of 20 hours per week for 50 weeks during the year. Michael estimates total annual wages for the workers at the states current minimum wage to be $72,000 in total. In addition, Michael will need one person to take orders, bill customers, and operate the cash register. Cary Smith, who currently works in the Student Development department at Rural College, has approached Michael about a job in sales. Cary knows the officers of all the student organizations on campus. In addition, she is very active in the community and may be able to expand the business reach. Michael thinks Cary can bring in a lot of business. In addition, she also has the administrative skills needed for the position. Because of her contacts, Michael is willing to pay Cary $1,200 per month plus a commission of 10% of sales. Michael estimates Cary will spend 50% of the workday focusing on marketing and sales, and the remaining 50% will be spent on administrative duties. Michael realizes that may have difficulty finding a person skilled in computer graphics to generate the designs to be printed on the shirts. Jayne recently hired a graphics designer in that position for Shirts and More at a rate of $500 per month plus $0.10 for each shirt printed. Michael believes he can find a top Rural College graphics design student to work for the same rate Jayne is paying her designer. Michael was fortunate to find a commercial building for rent near the college in the downtown area. The landlord requires a one-year lease. Although the monthly rent of $1,000 is more than Michael had anticipated paying, the building is nice, has adequate parking, and there is room for expansion. Michael anticipates that 75% of the building will be used in the silk-screen process and 25% will be used for sales and administration. 1 A gross is a dozen dozen or 144 units, sometimes called a square dozen.

Michaels friends have encouraged him to advertise weekly in the Rural College student newspaper. Upon inquiring, Michael found that a 3 x 3 ad would cost $25 per week. Michael also plans to run a weekly ad in the local newspaper that will cost him $75 per week. Michaels goal is to sell a large number of quality shirts at a reasonable price. He estimates the selling price of each customized shirt to be $16. Jayne has suggested that he should ask bulk order customers to pay for 70% of their purchases in the quarter purchased and pay the additional 30% in the following quarter. After talking with the insurance agent and the property valuation administrator in his municipality, Michael estimates that the property taxes and insurance on the machinery will cost $2,240 annually; property tax and insurance on display furniture and cash register will total $380 annually. Jayne reminded Michael that maintenance of the machines is required for the silk-screen process. In addition, Michael realizes that he must consider the cost of utilities to run the shop. The building Michael wants to rent is roughly the same size as the building occupied by Shirts and More. In addition, Shirts and More sells approximately the same number of shirts Michael plans to sell in his store. Therefore, Michael is confident that the maintenance and utility costs for his shop will be comparable to the maintenance and utility costs for Shirts and More, which are as follows within the relevant range of zero to 8,000 shirts per month. Shirts Sold Maintenance Costs Utility Costs January 2,000 $1,716 $1,100 February 2,110 1,720 1,158 March 2,630 1,740 1,171 April 3,150 1,740 1,198 May 5,000 1,758 1,268 June 5,300 1,818 1,274 July 3,920 1,825 1,205 August 2,080 1,780 1,117 September 8,000 1,914 1,400 October 6,810 1,860 1,362 November 6,000 1,855 1,347 December 3,000 1,749 1,193

Michael estimates the number of shirts to be sold in the first five quarters, beginning at the start of the new year, to be: First quarter, year 1 8,000 Second quarter, year 1 10,000 Third quarter, year 1 20,000 Fourth quarter, year 1 12,000 First quarter, year 2 18,000 Michael decides to establish his company as a regular or C-corporation. He will invest $10,000 of his personal savings in the company. Seeing how determined his son was to become an entrepreneur, Michaels father offered to co-sign a note for an amount up to $20,000 to help Michael open his shirt shop, Screenshot Tops, Inc. However, when Michael and his father approached the loan officer at First Guarantee Bank, the loan officer asked Michael to produce the following budgets for 2022. Sales budget Schedule of expected collections from customers for shirt purchases budget Schedule of expected payments for purchases Silk-screen labor budget Selling and administrative expenses budget Silk-screen overhead expenses budget Budgeted income statement Cash budget Budgeted balance sheet The loan officer advised Michael that the interest rate on a 12-month loan would be 8%. Michael expects the loan to be taken out as of January 1 when he purchases the equipment. Michael has estimated that his income tax rate will be 20%. He expects to pay the total tax due when the returns are filed in 2023.

Instructions Answer the following questions. 1. Do you think it was important for Michael to stipulate his four criteria for the business, including the goal of generating a net income of at least $25,000 annually? Why or why not? Answer in MS Word document. 2. If the company has sales of $12,000 during January of the first year of business, determine the amount of variable and fixed costs associated with a) utilities and b) maintenance using the high-low method for each. (Round unit variable costs to three decimal places where necessary.) c) Compute the expected total maintenance and utility cost at $12,000 Sales volume. 3. Using the format below, prepare a sales budget for the year ending 20xx. Screenshot Tops, Inc. Sales Budget For the Year Ended December 31, 20xx Quarter 1 2 3 4 Year Expected unit sales Unit selling price Budgeted sales revenue 4. Prepare a schedule of expected collections from customers. Screenshot Tops, Inc. Schedule of Collections from Customers For the Year Ended December 31, 20xx Quarter 1 2 3 4 Year Accounts receivable 1/1/xx 0 First quarter Second quarter Third quarter Fourth quarter Total collections 5. Michael learned from talking with Jayne that the supplier is so focused on making quality shirts that many times the shirts are not available for several days. She encouraged Michael to maintain an ending inventory of shirts equal to 25% of the next quarters sales. Prepare a shirt purchases budget for shirts using the format provided. Screenshot Tops, Inc. Shirt Purchases Budget For the Year Ended December 31, 20xx Quarter 1 2 3 4 Year

Shirts to be silk-screened Plus: Desired ending inventory Total shirts required Less: Beginning inventory Total shirts to purchase Cost per shirt Total cost of shirt purchases 6. Prepare a schedule of expected payments for purchases. Screenshot Tops, Inc. Schedule of Expected Payments for Purchases For the Year Ended December 31, 20xx Quarter 1 2 3 4 Year Accounts payable 1/1/xx 0 First quarter Second quarter Third quarter Fourth quarter Total payments 7. Prepare a silk-screen labor budget. Screenshot Tops, Inc. Silk-screen Labor Budget For the Year Ended December 31, 20xx Quarter 1 2 3 4 Year Units to be produced Silk-screen labor hours per unit Total required silk-screen labor hours Silk-screen labor cost per hour Total silk-screen labor cost 8. Prepare a selling and administrative expenses budget for Screenshot Tops, Inc. for the year ending December 31, 20xx. Screenshot Tops, Inc. Selling and Administrative Expenses Budget For the Year Ended December 31, 20xx Quarter 1 2 3 4 Year Variable expenses: Sales commissions Total variable expenses Fixed expenses: Advertising

Rent Sales salaries Office salaries Depreciation Property taxes and insurance Total fixed expenses Total selling and administrative expenses 9. Prepare a silk-screen overhead expenses budget for Screenshot Tops, Inc. for the year ending December 31, 20xx. Screenshot Tops, Inc. Silk-screen Overhead Expenses Budget For the Year Ended December 31, 20xx Quarter 1 2 3 4 Year Variable expenses: Ink Maintenance Utilities Graphics design Total variable expenses Fixed expenses: Rent Maintenance Utilities Graphics design Property taxes and insurance Depreciation Total fixed expenses Total silk-screen overhead Direct silk-screen hours Overhead rate per silk-screen hour 10. Using the information found in the case and the previous budgets, prepare a budgeted income statement for Screenshot Tops, Inc. for the year ended December 31, 20xx. Screenshot Tops, Inc. Budgeted Income Statement For the Year Ended December 31, 20xx Sales Cost of goods sold Gross profit Selling and administrative expenses Income from operations Interest expense

Income before income taxes Income tax expense Net income 11. Using the information found in the case and the previous budgets, prepare a cash budget for Screenshot Tops, Inc. for the year ended December 31, 20xx. Screenshot Tops, Inc. Cash Budget For the Four Quarters Ended December 31, 20xx Quarter 1 2 3 4 Beginning cash balance Add: Receipts Collections from customers Total available cash Less: Disbursements Payments for shirt purchases Silk-screen labor Silk-screen overhead Selling and administrative expenses Payment for equipment purchase Total disbursements Excess (deficiency) of available cash over disbursements Financing Borrowings Ending cash balance 12. Using the information contained in the case and the previous budgets, prepare a budgeted balance sheet for Screenshot Tops, Inc. at December 31, 20xx. Screenshot Tops, Inc. Budgeted Balance Sheet December 31, 20xx Assets Cash Accounts receivable Shirt inventory Equipment Less: Accumulated depreciation Total assets

Liabilities and Stockholders Equity Accounts payable Notes payable Interest payable Taxes payable Total liabilities Common stock Retained earnings Total stockholders equity Total liabilities and stockholders equity 13. Using the information contained in the case and the previous budgets, a) calculate the estimated contribution margin per unit for 20xx. (Hint: Silk-screened labor and the taxes are both fixed costs.) b) Calculate the total estimated fixed costs for 20xx (including interest and taxes). c) Compute the break-even point in units and dollars for 20xx. 14. Michael is very disappointed that the company did not have an income of $25,000 for its first year of budgeted operations as he had wanted. How many shirts would the company have had to sell in order to have a pretax profit of $25,000? (Ignore changes in income tax expense.) 15. Why does the companys cash balance differ from the net income for the year? 16. Do you think it was a good idea to offer Cary a salary plus 10% of sales? Why or why not? What other thoughts do you have?