Question

You have just been contracted as a new management trainee by Earrings Unlimited, a distributor of earrings to various retail outlets across the country. In the past, the company has done very little in the way of budgeting and at certain times of the year has experienced a shortage of cash.

Since you are well trained in budgeting, you have decided to prepare a master budget for the upcoming second quarter. To this end, you have worked with accounting and other areas to gather the information assembled below.

The company sells many styles of earrings, but all are sold for the same price - $10 per pair. Actual sales of earrings for the last three months and budgeted sales for the next six months follow:

January (actual)	20,000
February (actual)	26,000
March (actual)	40,000
April (budget)	65,000
May (budget)	100,000
June (budget)	50,000
July (budget)	30,000
August (budget)	28,000
September (budget)	25,000

The concentration of sales before and during May is due to Mother’s Day. Sufficient inventory should be on hand at the end of each month to supply 40% of the bracelets sold in the following month.

Suppliers are paid $4 for each bracelet. One-half of a month's purchases is paid for in the month of purchase; the other half is paid for in the following month. All sales are on credit with no discounts. The company has found, however, that only 20% of a month's sales are collected in the month of sale. An additional 70% is collected in the following month, and the remaining 10% is collected in the second month following sale. Bad debts have been negligible.

Monthly operating expenses for the company are given below:

Variable expenses:

Sales commissions 4% of sales

Fixed expenses:

Advertising $200,000

Rent $18,000

Salaries                                         $106,000

Utilities                                              $ 7,000

Insurance                                           $3,000

Depreciation                                     $14,000

Insurance is paid on an annual basis, in November of each year.

The company plans to purchase $16,000 in new equipment during May and $40,000 in new equipment during June; both purchases will be for cash. The company declares dividends of $15,000 each quarter, payable in the first month of the following quarter.

Other relevant data is given below:

Cash balance as of September 30 $74,000

Inventory balance as of September 30             $112,000

Merchandise purchases for September            $200,000

The company maintains a minimum cash balance of at least $50,000 at the end of each month. All borrowing is done at the beginning of a month; any repayments are made at the end of a month.

The company has an agreement with a bank that allows the company to borrow the exact amount needed at the beginning of each month. The interest rate on these loans is 1% per month and for simplicity we will assume that interest is not compounded. At the end of the quarter, the company will pay the bank all of the accrued interest on the loan and as much of the loan as possible while still retaining at least $50,000 in cash.

Required:

Prepare a cash budget for the three-month period ending June 30. Include the following detailed budgets:

1.A cash budget. Show the budget by month and in total. Determine any borrowing that would be needed to maintain the minimum cash balance of $50,000.

Answer 1

Solution:

1) Preparing a Cash Budget for the Three-month Period Ending June 30:

EARRINGS UNLIMITED Cash Budget For the Three Months Ending June 30
	April	May	June	Quarter
Cash balance	$74,000	$50,000	$50,000	$74,000
Add: collection from customers	$436,000	$695,000	$865,000	$1,996,000
Total cash available	$510,000	$745,000	$915,000	$2,070,000
Less Disbursements:
Merchandise purchases	$258,000	$318,000	$244,000	$820,000
Advertising	$200,000	$200,000	$200,000	$600,000
Rent	$18,000	$18,000	$18,000	$54,000
Salaries	$106,000	$106,000	$106,000	$318,000
Commissions (4% of sales)	$26,000	$40,000	$20,000	$86,000
Utilities	$7,000	$7,000	$7,000	$21,000
Equipment purchases	-	$16,000	$40,000	$56,000
Dividends paid	$15,000	-	-	$15,000
Total disbursements	$630,000	$705,000	$635,000	$1,970,000
Excess (deficiency) of receipts Over disbursements	($120,000)	$40,000	$280,000	$100,000
Financing:
Borrowing	$170,000	$10,000	-	$180,000
Repayments	-	-	($180,000)	($180,000)
Interest	-	-	($5,300)*	($5,300)
Total Financing	$170,000	$10,000	($185,300)	($5,300)
Cash balance , ending	$50,000	$50,000	$97,700	$94,700

* $170,000 * 12% * 3/12	$5,100
$10,000 * 12% * 2/12	$200
Total interest	$5,300