Executive Summary
Ken and Mary did not have the appropriate work experience needed to handle a business operation. They cannot make appropriate decisions when it comes to the ownership of a Second Cup franchise. As a result, they made faulty assumptions, and it made them believe that they had the resources to operate a coffee shop. They relied on information that was given to them by Second Cup.
The document that they received provided information on the annual operating expense for the enterprise. It also contained the projected earnings in the next twelve months of operation. However, careful scrutiny of the data revealed that Ken and Mary did not have the correct information to ensure that cash flow problems will not crop up in the first few months of operation. They needed to talk to the representatives of the Second Cup to obtain a more detailed breakdown of the expenses and projected earnings. After collating the pertinent information regarding the franchise, they must decide if they will need a bigger loan. They must make the necessary adjustments to prevent cash shortages in the near future.
Introduction
Due to the lack of management experience, Ken and Mary made assumptions that were not consistent with the facts of the case. The $20,000.00 in savings was only enough to pay the franchise fee. However, they needed more funds to pay other types of expenses. Second Cup gave them the assurance that it is relatively easy to secure a $200,000.00 bank loan on account of their being a franchisee of the company.
However, a careful examination of the annual operating expenses and projected revenue revealed the absence of key information that they needed to make the appropriate decisions for their new venture. They need this information to avoid cash shortages in the first few months of the business operation. They need to reconsider the business proposal of the Second Cup. They need to dig out more franchise-related information.
Problem Statement
Ken and Mary needed to acquire and collate pertinent information in order to make effective decisions on acquiring a franchise from Second Cup.
Analysis
The financial information from Second Cup requires further analysis, especially when it comes to the cash flow problems of the business. It is important to point out that Ken and Mary Hatch cannot afford to run out of cash while operating the said coffee shop business. However, Ken and Mary are struggling when it comes to their cash reserves. They made the disclosure that they could only afford to pay the $20,000.00 franchise fee. It is important to find out if they have access to other funds. It is not practical for them to invest everything in a single business deal. Therefore, it is also imperative to figure out the family situation of the couple. If they have children, then, they need to have cash reserves for emergency expenses.
The couple has to figure out the exact amount needed to pay for the following:
- Kitchen equipment
- Advance payment for renting the building
- Cost of Hiring Employees
- Permits and Fees
Based on the financial statement provided by Second Cup, the couple has to spend money to cover the miscellaneous expenses, advertising royalty, insurance, and other advertising requirements. They have to pay for these expenses even before the store can sell a single cup of coffee. They have to shell out at least $65,000.00 if Second Cup demands payment upfront for all types of advertising expenses. They also need an extra $20,000.00 for the revolving cash fund.
They need to find out if the cost to purchase equipment will not exceed the $100,000.00 mark. The couple’s ability to lower the cost of equipment will enable them to save a few thousand dollars. They can divert this amount for operating expenses. However, they will have problems if they need more than $120,000.00 to purchase the necessary equipment for the coffee shop.
In a typical franchise agreement, the franchisee is compelled to purchase a certain amount of goods to jumpstart the symbiotic relationship with the franchisor. According to the figures released by Second Cup, Ken and Mary must purchase products worth $320,000.00 for the first year of operation. Based on these figures they will probably need to purchase products worth at least $25,000.00 to start the delivery cycle. They do not have the money to pay for this expense. They will encounter cash flow problems because the $200,000 loan from the bank will not be enough to cover the cost of the equipment and other start-up costs.
Alternatives
Ken and Mary will request a detailed breakdown of the projected annual operating expenses for the franchise. They also need to look at the price list for the required kitchen equipment based on the system that was created by Second Cup. They also need to request the schedule of payment in order to find out the amount of money that they are obligated to pay the Second Cup in accordance with the terms of the franchise agreement. These actions will enable them to determine the exact cost of the equipment. They will also determine the exact amount of money that they will need to pay the Second Cup on a weekly or monthly basis.
The information generated through the use of appropriate cash flow techniques will allow them to see the exact amount of money they will need to operate the business in the first month of the fiscal year. They will figure out if they have enough funds to purchase the coffee products and other commodities from Second Cup. Furthermore, they will find out if they have enough money to cover the initial cash balance of $20,000.00. In addition, they will know if they have enough money to pay the salaries of the workers.
Ken and Mary should alter the loan application, in the event that the cost of equipment and other start-up costs exceeded the $200,000.00 threshold. In this scenario, they will need a bigger bank loan. They will also find out the number of workers they will hire to help them run the business.
If they think that there is not enough money to operate the said coffee shop, Ken and Mary can decide to look for other business opportunities. Ken and Mary’s decision to pursue their dream of becoming entrepreneurs hinges on their ability to ask critical questions directed at the representatives of Second Cup.
Recommendation
Ken and Mary should ask the representative of Second Cup all the pertinent questions related to the annual operating expenses of the business. They will use the information to determine the viability of the business.
Implementation
Ken and Mary will schedule a final round of meetings with the representatives of Second Cup in order to dig out more information regarding the operating expenses of a typical business outlet. They also need to ask questions with regard to human resources issues. They need to figure out other details, such as the cost of securing permits and other miscellaneous expenses. They also need to find out the type of expenses that a typical business owner incurs. After collating all pertinent information, Ken and Mary will realize that they will eventually run out of cash a few months after the start of the business. They will be compelled to request a bigger loan from the bank.
In the event that the bank refuses to provide a loan in excess of $200,000.00, Ken and Mary had to change their approach in acquiring a Second Cup franchise. In this scenario, they are compelled to negotiate certain aspects of the business agreement. Second Cup managers must accept staggered payments for twelve months so that Ken and Mary can pay for royalty advertising and other forms of advertising fees. Second Cup will shoulder these expenses on behalf of the franchisees in the said area. A favorable response from the company will enable Ken and Mary to save some money so that there are enough cash reserves needed for the revolving cash fund.
After the final round of meetings with the representatives from the Second Cup, Ken and Mary will have a clearer picture of the managerial requirements for their new business. They will also make the tough decision to hire only one employee to reduce operating expenses.
Ken and Mary must take advantage of the training program provided by the company. They will focus on studying cash flow techniques, and they will attempt to acquire basic accounting skills. They have to acquire the skills needed to secure a favorable response from the bank. They will use these skills to develop their own version of a feasibility study that will help them determine the viability of owning a Second Cup franchise. The outcome of the feasibility study will help them realize if they have the resources needed to operate their own business.