Question

Empire Ltd. is a company that manufactures and sells a single product called WarStars. For planning and control purposes they utilize a monthly master budget, which is developed in advance of the budget year. Their fiscal year end is March 31.

The sales forecast consisted of these few lines:

• For the year ended March 31, 2020: 620,000 units at $15.00 each*

• For the year ended March 31, 2021: 640,000 units at $16.50 each

• For the year ended March 31, 2022: 660,000 units at $16.50 each

*Sales for the year ended March 31, 2020 are based on actual sales to date and budgeted sales for the duration of the year.

Your investigations of the company’s records have revealed the following information:

1. Peak months for sales correspond with gift-giving holidays. History shows that January, March, May and June are the slowest months with only 4% of sales for each month. Sales pick up over the summer with July, August and September each contributing 6% to the total. Valentine’s Day in February boosts sales to 8%, and Easter in April accounts for 10%. As Christmas shopping picks up momentum, winter sales start at 12% in October, move to 16% in November and then peak at 20% in December. This pattern of sales is not expected to change in the next two years.

2. From previous experience, management has determined that an ending inventory equal to 30% of the next month’s sales is required to fit the buyer’s demands.

3. There is only one type of raw material used in the production of WarStars. MilkyWay acrylic (MWA) is a very compact material that is purchased in powder form. Each WarStars requires 6 kilograms of MWA, at a cost of $1.00 per kilogram. The supplier of MWA tends to be somewhat erratic so Empire finds it necessary to maintain an inventory balance equal to 50% of the following month’s production needs as a precaution against stock-outs. Empire pays for 25% of a month’s purchases in the month of purchase, 30% in the following month and the remaining 45% two months after the month of purchase. There is no early payment discount. 2

4. Beginning accounts payable will consist of $306,612 arising from the following estimated direct material purchases for February and March of 2020: MWA purchases in February, 2020: $236,160 MWA purchases in March, 2020 $267,120

5. Space Age’s manufacturing process is highly automated, so their direct labour cost is low. Employees are paid on an hourly basis. Their total pay each month is, therefore, dependent on production volumes and averages $20.00 per hour. This rate already includes the employer’s portion of employee benefits. All payroll costs are paid in the period in which they are incurred. Each unit spends a total of 6 minutes in production.

6. Variable manufacturing overhead is allocated based on units produced. The unit variable overhead manufacturing rate is $2.50

7. The fixed manufacturing overhead costs for the entire year are as follows: Training and development $ 144,000 Property and business taxes 84,000 Supervisors’ salaries 194,400 Depreciation of manufacturing equipment 132,000 Insurance 69,600 Other 123,600 $ 747,600 • Fixed manufacturing overhead costs are incurred evenly over the year and paid as incurred. • Empire uses the straight-line method of depreciation.

8. Selling and administrative expenses are known to be a mixed cost; however, there is a lot of uncertainty about the portion that is fixed. Previous years’ experience has provided the following information: Lowest level of sales: 560,000 units Total S&A Expenses: $888,000 Highest level of sales:680,000 units Total S&A Expenses: $1,032,000 It is estimated that the total selling and administrative expenses for the budget year will be about 2.5% greater than the previous average. These costs are paid in the month in which they occur, with the exception of the only non-cash item: a monthly depreciation of office equipment in the amount of $5,000. Bad debt expense (see point 9) or warehouse rental (see point 10) are not included in the above expenses.

9. Sales are on a cash and credit basis, with 55% collected during the month of the sale, 30% the following month, and 13% the month thereafter. 2% of sales are considered uncollectible (bad debt expense).

10.Because sales are seasonal, Empire must rent an additional warehouse from September to December to house the additional inventory on hand at $25,000 per month, payable at the beginning of the month. 3

11.Sales in February and March 2020 are expected to be $744,000 and $372,000 respectively. Based on the above collection pattern this will result in Accounts Receivable of $256,680 at March 31, 2020, which will be collected in April and May 2020.

12.During the fiscal year ended March 31, 2021 Empire will be required to make monthly income tax installment payments of $12,500. Outstanding income taxes from the year ended March 31, 2020 must be paid in June 2020.

13.Prior to the busy season, Empire is planning to upgrade its manufacturing equipment for which they will need to pay cash. The bid that was accepted totaled $450,000 which will be paid in 9 equal instalments beginning in June 2020. Manufacturing overhead costs shown above already include the depreciation on this equipment.

14.An arrangement has been made with the local bank that if Empire maintains a minimum balance of $50,000 in their bank account, they will be given a line of credit at a preferred rate of 6% per annum. All borrowing is considered to happen on the first day of the month, repayments are on the last day of the month. All borrowings and repayments from the bank should be in multiples of $1,000 and interest must be paid at the end of each month. Interest is calculated on the balance at the beginning of the month, which includes any amounts borrowed that month (i.e. any borrowing for a month must occur at the beginning of that month). There is an outstanding line of credit borrowing of $152,000 on March 31, 2020.

15.Empire has a policy of paying dividends at the end of each month. The President tells you that the board of directors plans to continue their policy of declaring dividends of $10,000 per month.

16.A listing of the estimated balances in the company’s ledger accounts as of March 31, 2020 is given below: Cash $ 50,920 Accounts payable $ 306,612 Accounts receivable 256,680 Income tax payable 50,000 Inventory-raw materials 157,440 Bank Loan 152,000 Inventory-finished goods 240,960 Capital stock 500,000 Capital assets (net) 1,294,000 Retained earnings 991,388 $ 2,000,000 $ 2,000,000 4

Required: Prepare a monthly master budget for Empire for the year ended March 31, 2021, including the following schedules:

1. Sales Budget & Schedule of Cash Receipts 2. Production Budget 3. Direct Materials Budget & Schedule of Cash Disbursements 4. Direct Labour Budget 5. Manufacturing Overhead Budget 6. Ending Finished Goods Inventory Budget 7. Selling and Administrative Expense Budget 8. Cash Budget

Answer 1

Solution: