Question

Turban Hill Manufacturing Working Capital Management

You have recently been hired by Turban Hill Manufacturing to work in the newly established treasury department. Turban Hill Manufacturing is a small company that produces cardboard boxes in a variety of sizes for different purchasers. Gary Turban Hill, the owner of the company, works primarily in the sales and production areas of the company. Currently, the company puts all receivables in one shoe box and all payables in another. Because of the disorganized system, the finance area needs work, and that’s what you’ve been brought in to do.

The company currently has a cash balance of $240,000, and it plans to purchase new box-folding machinery in the fourth quarter at a cost of $445,000. The machinery will be purchased with cash because of a discount offered. The company’s policy is to maintain a minimum cash balance of $125,000. All sales and purchases are made on credit.

Gary Turban Hill has projected the following gross sales for each of the next four quarters:

Q1 Q2 Q3 Q4

Gross sales $1,240,000 $1,310,000 $1,370,000 $1,450,000

Also, gross sales for the first quarter of next year are projected at $1,290,000. Turban Hill currently has an accounts receivable period of 53 days and an accounts receivable balance of $630,000. Twenty percent of the accounts receivable balance is from a company that has just entered bankruptcy, and it is likely this portion of the accounts receivable will never be collected.

Turban Hill typically orders 50 percent of next quarter’s projected gross sales in the current quarter, and suppliers are typically paid in 42 days. Wages, taxes, and other costs run about 30 percent of gross sales. The company has a quarterly interest payment of $130,000 on its long-term debt.

The company uses a local bank for its short-term financial needs. It pays 1.5 percent per quarter in all short-term borrowing and maintains a money market account that pays 1 percent per quarter on all short-term deposits.

Gary has asked you to prepare a cash budget and short-term financial plan for the company under the current policies. He has also asked you to prepare additional plans based on changes in several inputs.

QUESTIONS

1. Use the numbers given to complete the cash budget and short-term financial plan. (Group 1)

2. You have looked at the credit policy offered by your competitors and have determined that the industry standard credit policy is 1/10, net 40.* The discount will begin to be offered on the first day of the first quarter. You want to examine how this credit policy would affect the cash budget and short-term financial plan. If this credit policy is implemented, you believe that 40 percent of all sales will take advantage of it, and the accounts receivable period will decline to 36 days. Rework the cash budget and short-term financial plan under the new credit policy and a minimum cash balance of $100,000. What interest rate are you effectively offering customers?

Answer 1

Assumption :

1 Quarter = 90 Days

In the absense of information about opening Payables. It is assumed that there is no outstanding balance to suppliers in first quarter.

Cash Budget and Short term financial Plan
	Qtr -1	Qtr -2	Qtr -3	Qtr -4
Gross Sales	1240000	1310000	1370000	1450000
Purchase	655000	685000	725000	645000
Opening Cash Balance (A)	240000	125000	125000	125000
Cash received from Receivables
- From Opening	504000	730222.2222	771444.4444	806777.7778
	(630000 - 126000)	(1240000 * 53/90)	(1310000*53/90)	(1370000*53/90)
- From Current Qtr Sales	509777.7778	538555.5556	563222.2222	596111.1111
	(1240000 * 37/90)	(1310000*37/90)	(1370000*37/90)	(1450000*37/90
Interest Earned from Money Market	0	2774.444444	3549.966667	4458.799667
Total Cash Inflow (B)	1013777.778	1271552.222	1338216.633	1407347.689
Cash Paid to Suppliers
-Opening	0	305666.6667	319666.6667	338333.3333
		(655000*42/90)	(685000*42/90)	(725000*42/90)
- From Current Quarter Purchase	349333.3333	365333.3333	386666.6667	344000
	(655000*48/90)	(685000*48/90)	(725000*48/90)	(645000*48/90)
Wages, Taxes and Other Costs	372000	393000	411000	435000
Interest Payment	130000	130000	130000	130000
Purchase of Machinery				445000
Total Cash Outflow (C )	851333.3333	1194000	1247333.333	1692333.333
Balance D=(A + B - C)	402444.4444	202552.2222	215883.3	-159985.6448
Loan from Local Bank @ 1.5%	0	0	0	0
Investment in money market @ 1%	-277444.44	-77552.22222	-90883.3	284986.00
	(125000-402444.44)	(125000-77552.22)	(125000-89633.30)	(125000+159986)
Total ( E )	-277444.4444	-77552.22222	-90883.3	284986
Closing Balance (D + E)	125000	125000	125000	125000