Question

Introduction to managerial Accounting 5E - pg 414 - PROBLEM 7–9 Preparing Merchandise Purchases and Cash Budgets

Kat Ltd.’s September balance sheet contains the following information:

October 31 cash balance: $40,950

Cash $37,500 (dr)

Accounts Receivable $126,000 (dr)

Allowance for Doubtful Accounts $2,800 (cr)

Merchandise Inventory $26,250 (dr)

Management has designated $37,500 as the firm’s minimum monthly cash balance.

Other information about the firm and its operations is as follows:

a. Sales revenues of $350,000, $420,000, and $312,500 are expected for October, November, and December, respectively. All goods are sold on account.

b. The collection pattern for accounts receivable is 60% in the month of sale, 39% in the month following the month of sale, and 1% uncollectible, which is set up as an allowance.

c. Cost of goods sold is 60% of sales revenues.

d. Management’s target ending balance of merchandise inventory is 10% of the current month’s budgeted cost of goods sold.

e. All accounts payable for inventory are paid in the month of purchase.

f. Other monthly expenses are $49,250, which includes $3,500 of depreciation and $2,000 of bad debt expense.

g. In the event of a shortfall, the company borrows money. In contrast, in the event of excess cash, the company invests in short-term investments. Borrowings and investments are assumed to be made at the end of a month in increments of $6,250.

h. Interest on borrowings is 10% per year, payable every quarter, on the accumulated amount of the loan; similarly, interest earned on investments is 8% per year on the accumulated investments and is received every quarter. Investments can be matured and the principal amount redeemed in June or December of a year.

Required:

1. Prepare a merchandise purchases budget for October and November.

2. Prepare the cash budgets for October and November, including the effects of financing (borrowing or investing). Interest is earned or paid quarterly.

My question is from 2. - On the Cash Budget for October and November, how much is the expenses for each month? - This had been answered previously as - October - $43,400 and November - $43,750, however I didn't understand why there was a $350 difference. Are these figures correct, and if so how did we get these figures?

Answer 1

1.

Kat Ltd.
Merchandise Purchases Budget
	October	November	December
Budgeted sales	$350,000	$420,000	$312,500
Budgeted cost of goods sold (60%)............................	210,000	252,000	187,500
Add desired ending inventory*...................................	21,000	25,200	18,750
Total needs...............................................................	231,000	277,200	206,250
Less beginning inventory...........................................	26,250	21,000	25,200
Required inventory purchases.....................................	$204,750	$256,200	$181,050

*10% of the current month’s budgeted cost of goods sold.

2.

Kat Ltd.
Cash Budget
	October	November
Cash balance, beginning....................................................	$37,500	$ 40,950
Add collections from sales*................................................	333,200	388,500
Total cash available...........................................................	$370,700	$429,450
Less disbursements:
Purchases for inventory...................................................	204,750	256,200
Monthly expenses...........................................................	43,750	43,750
Total disbursements...........................................................	$248,500	$299,950
Excess (deficiency) of cash.................................................	$122,200	$ 129,500
Financing:
Investments………………	$81,250**	$87,500**
Borrowings....................................................................
Repayments...................................................................
Interest.........................................................................
Total financing..................................................................	(81,250)	(87,500)
Cash balance, ending.........................................................	$ 40,950	$ 42,000

* Collections on sales:   

		October	November
	Sales on account:
	Sep.: ..............................................................................	$123,200
	Oct.: $350,000 × 60%, 39%.............................................	210,000	$136,500
	Nov.: $420,000 × 60%		252,000
	Total cash collections............................................................	$333,200	$388,500

The collection of $123,200 in October, from September sales, is the accounts receivable amount ($126,000) net of the allowance for doubtful accounts ($2,800).

** Note that since there is excess cash, it will be invested. The total amount invested must be in increments of $6,250 and after the amount invested is netted from the excess cash, the ending balance must equal or exceed $37,500. Trial and error will lead to the above values; there is no systematic method that can be provided. For example in November, there is $129,500 - $37,500 = $92,000 available for investment. Dividing by $6,250 yields 14.72 investment units and 14 x $6,250 is invested: $87,500.