Question

Dorothy Koehl recently leased space in the Southside Mall and opened a new business, Koehl's Doll Shop. Business has been good, but Koehl frequently runs out of cash. This has necessitated late payment on certain orders, which is beginning to cause a problem with suppliers. Koehl plans to borrow from the bank to have cash ready as needed, but first she needs a forecast of just how much she must borrow. Accordingly, she has asked you to prepare a cash budget for the critical period around Christmas, when needs will be especially high.

Sales are made on a cash basis only. Koehl's purchases must be paid for during the following month. Koehl pays herself a salary of $4,900 per month, and the rent is $1,800 per month. In addition, she must make a tax payment of $13,000 in December. The current cash on hand (on December 1) is $850, but Koehl has agreed to maintain an average bank balance of $6,500 - this is her target cash balance. (Disregard the amount in the cash register, which is insignificant because Koehl keeps only a small amount on hand in order to lessen the chances of robbery.)

The estimated sales and purchases for December, January, and February are shown below. Purchases during November amounted to $160,000.

	Sales		Purchases
December	$160,000		$40,000
January	46,000		40,000
February	56,000		40,000

Prepare a cash budget for December, January, and February. Use a minus sign to enter negative values for net cash flows, cumulative NCF values, and loans needed, if any. If the answer is zero, enter "0". Do not round intermediate calculations. Round your answers to the nearest dollar.

Collections and Purchases:
	December	January	February
Sales	$	$	$
Purchases	$	$	$
Payments for purchases	$	$	$
Salaries	$	$	$
Rent	$	$	$
Taxes	$	---	---
Total payments	$	$	$
Cash at start of forecast	$	---	---
Net cash flow	$	$	$
Cumulative NCF	$	$	$
Target cash balance	$	$	$
Surplus cash or loans needed	$	$	$

Suppose Koehl starts selling on a credit basis on December 1, giving customers 30 days to pay. All customers accept these terms, and all other facts in the problem are unchanged. What would the company's loan requirements be at the end of December in this case? (Hint: The calculations required to answer this question are minimal.) Use a minus sign to enter a negative value for loan requirements. Do not round intermediate calculations. Round your answer to the nearest dollar.

Answer 1

a. Cash Budget for December, Januray & February:

	December	January	February
Sales	160,000	46,000	56,000
Purchases	(40,000)	(40,000)	(40,000)
Payment for purchases	(160,000)	(40,000)	(40,000)
Salaries	(4,900)	(4,900)	(4,900)
Rent	(1,800)	(1,800)	(1,800)
Taxes	(13,000)
Total Payments	(179,700)	(46,700)	(46,700)
Cash at start of forecast	850	6,500	6,500
Net Cash flow	(19,700)	(700)	9,300
Cumulative NCF	(18,850)	5,800	15,800
Target Cash Balance	6,500	6,500	6,500
(Surplus cash) or loans needed	25,350	700	(9,300)

Thus, Koehl needs loan of $25,350 in December, $700 in Janurary and has surplus cash of $9,300 in February.

Working Notes:

1. Sales = values given in question; collection in same month of sales

2. Purchases = values given in question

3. Payment for Purchases = Payment in the following month of purchases; thus November purchase of 160,000 will be paid in December, December purchase of 40,000 will be paid in January and Januray purchase of 40,000 will be paid in February.

4. Salaries, Rent = values given in question; to be paid in same month

5. Taxes = value given in question = to be paid only in December

6. Total Payments = Payment for Purchases + Salaries + Rent + Taxes

7. Cash at start of forecast

December beginning = Value given in question of 850

Janurary= closing balance of december (which is the minimum balance required)

February= closing balance of January (which is the minimum balance required)

8. Net Cash flow = Sales - Total Payments

9. Cumulative NCF = Net Cash flow + Cash at start of forecast (month)

10. Target Cash Balance = Value given in question

11. (Surplus cash) or loans needed = Target Cash Balance - Cumulative NCF.

If target cash balance is less than cumulative NCF, it denotes Surplus Cash

If target cash balance is higher than cumulative NCF, it denotes loans needed.

b. Cash budget for December if sales made on 30 days credit basis

Sales credit period = 30 days. Thus December sales of 160,000 will be received in Janurary. Hence, there will be no collections in December (as November sales would have been collected in November). All other terms remain the same.

Thus,revised loan requirement = Loan requirement (before credit period) + Sales of December = 25,350+160,000 = 185,350