Description of the Business
The business is a gourmet candy shop. The shop will sell gourmet candy that has been sourced from all over the world. The shop will operate with one storefront location, and there will be an Internet/mail order component as well.
The rationale for the business is simply. There is a growing trend towards hedonistic approaches to dining. We have seen in the past few years the rise of the bacon fetish, high end craft beer and coffee, cupcakes, the move of fine dining to the mass market and a full embrace by Americans of better quality indulgent goods. Much of this trend can be credited to the aging of the population, as people seek to maximize pleasure. They have the financial means to treat themselves, and seek to balance this hedonism with a desire to be healthy. The intersection of these ideals is where indulgences are small, intense and rich. Gourmet candy is a natural extension of this, providing maximum pleasure at minimal health impact for those with sophisticated palates and the means to pay for the best. We sell the best candy, both locally-produced and imported from around the world.
According to the National Confectioners Association, the candy market in the United States with worth $29.4 billion. This includes over $20 billion on chocolate and $2 billion at Hallowe’en alone (Rohwedder, 2013). Growth in the candy market is being driven by two things — new, exotic products and higher prices, both of which support the idea that there is tremendous growth potential in the gourmet candy market. Further, gourmet candy is still often difficult to find. There is some gourmet candy that is distributed to the normal “big box” retail channels, but more often consumers are forced to seek out specialty shops and Internet sources if they want something truly unique. We believe that there is both a strong local market for gourmet candy — based on local consumption of other superpremium food and drink items — and that there is considerably room to build a successful online distribution business as well.
The retail outlet is not expected to be large. There will be perhaps one full time staff member and 2 part-time staff members who are running the shop, and at times the principle will be in the retail store as well, covering if need be. The online business is expected to have higher growth. While it at first will be an extension of the retail store, there are plans in place to growth this side of the business. At particular revenue levels, the online business will gain its own real estate and staff upgrades.
Form of the Business
The form of the business is going to a corporation. While this form of business organization is more complicated to set up than the other business forms, it has several benefits that justify the additional effort and expense. A critical factor is liability. Being in a food business, there is a very high liability risk. If somebody consumes something that makes them sick, the ensuing legal action could carry a high price tag. Incorporation limits the downside liability to the business owners, which is an important factor in the decision to incorporate (Bailey, 2013).
The other major reason to incorporate is so that the business can grow. Most other forms of business organization are inappropriate for raising outside capital, whereas a corporation is fully capable to seek out external investors. There is reason to believe that the online aspect of the business in particular — because it lacks geographic constraints — is capable to achieving a high rate of growth. If this were to occur, and there was a need for subsequent financing, incorporation at that point would be necessary. Even this stage of the business’ growth requires tapping outside markets, an incorporation provides an appropriate means of doing this, in part because ownership is easier to transfer and in part because of the limited downside liability exposure of the corporation form of organization.
The disadvantages of incorporation are relatively minor in relation to the advantages that this form of business organization brings.
Chart of Accounts
Realistically, we can set up any account when we want at such time as we need it. There is no reason to expend much energy guessing about this ahead of time. The business will have the usual accounts that one would expect from a retail operation. The assets the business expects to hold include cash, accounts receivable (mostly credit cards) and inventories. The real estate is being leased, so is not expected that there will be many long-term assets during the initial launch and growth phases. Some long-term assets will be in the form of equipment, for example relating to the store, a company vehicle and the supplies that are used in the business, including computers and other technology that is amortized in a MACRS class.
On the other side of the balance sheet, the two main forms of financing will be recorded. Most of the initial financing is in the form of owner’s equity, but there will be some debt as well. Current liabilities in the form of trade payables will be incurred, especially with respect to inventory. There will be accrued wages and benefits payable. Initially, there will not be pensions for the employees but at such point as pensions are offered, the company will . Hopefully within a year or two there will be some retained earnings on the equity side as well.
Revenue will come from retail, there being two streams for this revenue, the store and the Internet/mail order. There might be a wholesale business emerging, and that would constitute a different revenue stream. There are not expected to be other source of revenue, though any cash on hand might accrue a small amount of interest receivable. Expenditures will take two forms. are expected to be in the form of the operating lease on the store facility. If expansion is required, another lease would be acquired. It is entirely likely at this point that operating expenses are the primary expense class. These include inventory, wages, utilities and other expenses related to a retail operation such as marketing and telecommunications. There will be an interest expense relating to the debt that the company is using to partially-fund the business.
A privately-held corporation can use any accounting system it wants, at least as far as the SEC is concerned. The IRS, however, will have some questions if an ad hoc system is used. It is in the best interests of the company to have an established accounting system. This will make the taxation process that much smoother. There is only one viable choice of accounting system — the system that is used in the country in question. In the United States, this is generally accepted accounting principles (GAAP), specifically the U.S. version thereof (there are English and Canadian versions as well, at least). The International Financial Reporting System (IFRS) is used internationally, but is not accepted in the U.S., and some of its rules would be against accepted principles in the U.S. There is a convergence effort that is ongoing, but the outcomes of this convergence are being incorporated into GAAP (FASB, 2013). Thus, GAAP is the only logical accounting system to use for this company. It is important, however, to understand that GAAP is constantly changing as the result of this convergence effort. It is therefore essential that the business follows the convergence progress on the FASB website, so that it is with whatever changes to GAAP occur. The company will need to reflect any changes to GAAP in its next set of financial statements and describe to investors how these changes affected the company’s figures.
Using GAAP will help the company in many ways. First, it is a formalized system that has been tested over time, which makes it superior to any ad hoc system that the company might devise. It is easy to find accountants who utilize GAAP. Also, the IRS recognizes GAAP, meaning that no translation of in-house figures to figures acceptable by the IRS is necessary. Using GAAP from the outset saves both time and money, and delivers a better system. Furthermore, investors are familiar with GAAP and expect it. It is unlikely that the company will find any investors in the U.S. If it uses another accounting system.
The following are a pro forma of the income statements for the first 4 quarters and the first year balance sheet. The assumptions about growth, markups and costs are embedded in the formulas of the spreadsheet. This is a startup business; so there are no hard figures on which these statements are based. These pro-formas are therefore for example purposes only, to judge the viability of the business under assumed conditions. One assumption that falls out of the norm is that Q4 income will be substantially higher than income in other quarters. While the business is expected to be a growth trajectory anyway, Q4 should be an outlier because that is normal in retail. Gourmet candy in particular should have an appeal in a quarter that features Halloween, Thanksgiving and Christmas. The following year Q1, sale are expected to regress to the mean growth trend.
The depreciation expense is based on MACRS 5-year asset class for vehicles, which is 20% in the first year, and at a value of $30,000 (IRS.gov, 2013). The provision for income tax is 30%, based on averages for retail businesses in this state. The interest expense is on the $20,000 small business loan that was approved at a fixed rate of 5.5%, having a period of two years. Principle repayments are $10,000 per year.
Candy Store, Inc.
Pro Forma Income Statement
S, G, A Exp
Provision for Taxes
The balance sheet shows the end of the first year, where $10,000 of the initial debt has been repaid before the earnings are retained. The company began with $50,000 in shareholder’s equity, and has $10,000 remaining, payable in one year’s time.
Total Current Assets
Debt, current portion
Total current liabilities
Total Liabilities and Equity
There are several internal controls that need to be put into place to preserve the company’s assets. One of the biggest assets is cash and another is inventory. Both of these can be protected using similar systems of documentation and role definition. First, cash should only be handled by specific individuals within the company. The same is true for inventories. Movements of both should be recorded as soon as the movement occurs — with inventory this would be tied to a point of sale system that measures inventory levels continuously. Discrepancies should be investigated. Closed circuit cameras on the cash register and in the inventory room and storefront are also valuable in ensuring basic security of physical goods With cash, there should only be specific signatories who can pay bills. Where there are multiple different managers, there should be separation of tasks, so that no single manager is performing all functions with respect to cash. Checks should require multiple signatories. All paperwork should be subject to periodic inspection and reconciliation. With cash this should be done daily to ensure that any discrepancies are addressed immediately.
The inventory should also be protected with insurance. While this is a natural for the building and the vehicle, insurance should also cover the inventory as well. This will require strict documentation of inventory. Insurance provides a safeguard against theft, fire, water damage, flooding or any other issue that could befall the assets. With these techniques, the value of the firm’s assets can be better preserved from the major risk categories, which should give some comfort to the owners.
There may be challenges with implementing these controls, specifically related to cost. Other challenges, such as training and organizational culture, should not exist because this is a new company and these systems will be implemented from the outset. Some of the controls have high costs associated with them, in particular insurance and security cameras. However, the cost of these controls is minimal when compared with the cost of potential loss from things like theft or fire.
All businesses, especially ones that work with food, are affected by the regulatory environment. There are regulations with respect to food handling, the Civil Rights Act and other human resources-related acts, and with respect to the local business regulations and licensing. In some areas, food handling has special requirements. These will need to be investigated at the federal, state, country and civic levels. The company will need to investigate how the Affordable Care Act affects its obligations to the employees with respect to the provision of benefits. The organization will need to be intimately familiar with the relevant tax codes to ensure IRS compliance.
Some regulations do not affect this business. Sarbanes-Oxley does not apply to this business. SOX only applies to publicly-traded companies, so as long as the Candy Shop Inc. is not publicly-traded, Sarbanes-Oxley does not apply.
There are many resources for small business owners to learn about their obligations. Where obligations obviously exist — retail licensing, food handling, etc. — the business should be in regular contact with the relevant authorities, who will keep the company informed about the relevant legislation. A tax professional should be retained in order to ensure that any changes in GAAP are incorporated into the company’s accounting systems. There are many online resources and small business associations that outline the variety of legal obligations the business has, including those related to human resources. Overall, keeping up-to-date on the regulatory environment is the responsibility of the business owner, and the business management will need to be proactive, therefore, with respect to this task. Periodic reviews of practices and compliance audits are valuable tools to help the business maintain full legal compliance.
Bailey, E. (2013). Pros and cons of incorporation. Suite101.com. Retrieved November 14, 2013 from http://suite101.com/a/pros-and-cons-of-incorporation-a42401
FASB. (2013). International convergence of accounting standards. Financial Accounting Standards Board. Retrieved November 14, 2013 from http://www.fasb.org/jsp/FASB/Page/SectionPage&cid=1176156245663
IRS.gov. (2013). Publication 946. Internal Revenue Service. Retrieved November 14, 2013 from http://www.irs.gov/publications/p946/ar02.html#en_US_2012_publink1000270861
NCA. (2013). Profile of the U.S. candy industry. National Confectioners’ Association. Retrieved November 14, 2013 from http://www.candyusa.com/content.cfm?ItemNumber=1607
Rohwedder, C. (2013). Halloween candy goes gourmet. Wall Street Journal. Retrieved November 14, 2013 from http://online.wsj.com/news/articles/SB10001424052702304527504579167581690397474