Question

You have just been hired as a new management trainee by Earrings Unlimited, a distributor of earrings to various retail outlets located in shopping malls 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 comprehensive budgets for the upcoming second quarter in order to show management the benefits that can be gained from an integrated budgeting program. 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—$11 per pair. Actual sales of earrings for the last three months and budgeted sales for the next six months follow (in pairs of earrings):

January (actual)	20,200	June (budget)	50,200
February (actual)	26,200	July (budget)	30,200
March (actual)	40,200	August (budget)	28,200
April (budget)	65,200	September (budget)	25,200
May (budget)	100,200

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 earrings sold in the following month.

Suppliers are paid $4.1 for a pair of earrings. 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 discount, and payable within 15 days. 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:
Sales commissions		4%	of sales
Fixed:
Advertising	$	210,000
Rent	$	19,000
Salaries	$	108,000
Utilities	$	7,500
Insurance	$	3,100
Depreciation	$	15,000

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

The company plans to purchase $16,500 in new equipment during May and $41,000 in new equipment during June; both purchases will be for cash. The company declares dividends of $15,750 each quarter, payable in the first month of the following quarter.

2.	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 $51,000 (Cash deficiency, repayments and interest should be indicated by a minus sign.)

        

	Earrings Unlimited Cash Budget For the Three Months Ending June 30 April May June Quarter Beginning cash balance Add collections from customers Total cash available Less cash disbursements: Merchandise purchases Advertising Rent Salaries Commissions Utilities Equipment purchases Dividends paid Total cash disbursements Excess of cash available over disbursements Financing: Borrowings Repayments Interest Total financing Ending cash balance
3.		A budgeted income statement for the three-month period ending June 30. Use the contribution approach.

Answer 1

2)
Earrings Unlimited
Cash Budget
	April (a)	May (b)	June (c )	Quarter (a+b+c)
Beginning cash balance	$75,000	$51,592	$86,434	$213,026
Add: Cash collections from customers	$480,800	$766,700	$953,700	$2,201,200
Total cash available (a)	$555,800	$818,292	$1,040,134	$2,414,226
Less: Cash disbursements:
Merchandise purchases	$265,270	$326,770	$250,920	$842,960
Advertising	$210,000	$210,000	$210,000	$630,000
Rent	$19,000	$19,000	$19,000	$57,000
Salaries	$108,000	$108,000	$108,000	$324,000
Commissions (65,200*$11*4/100); (100,200*$11*4/100); (50,200*$11*4/100)	$28,688	$44,088	$22,088	$94,864
Utilities	$7,500	$7,500	$7,500	$22,500
Equipment purchases		$16,500	$41,000	$57,500
Dividends paid	$15,750			$15,750
Total cash disbursements (b)	$654,208	$731,858	$658,508	$2,044,574
Excess cash available over disbursements (a - b)	($98,408)	$86,434	$381,626	$369,652
Financing:
Borrowings ($98,408 + $51,000 = $149,408 in $1,000 increments = $150,000);	$150,000	$0	$0	$150,000
Repayments			$150,000	$150,000
Interest ($150,000*1/100*3 months)	$0	$0	$4,500	$4,500
Total Financing	$150,000	$0	$154,500	$154,500
Ending Cash Balance ($150,000 - $98,408)	$51,592	$86,434	$227,126	$365,152
3)
Earrings Unlimited
Budgeted Income Statement
	April (a)	May (b)	June (c )	Quarter (a+b+c)
Sales Revenue (65,200*$11); (100,200*$11); (50,200*$11)	$717,200	$1,102,200	$552,200	$2,371,600
Less: Variable costs:
Sales Commissions	($28,688)	($44,088)	($22,088)	($94,864)
Contribution Margin	$688,512	$1,058,112	$530,112	$2,276,736
Less: Fixed costs:
Advertising	($210,000)	($210,000)	($210,000)	($630,000)
Rent	($19,000)	($19,000)	($19,000)	($57,000)
Salaries	($108,000)	($108,000)	($108,000)	($324,000)
Utilities	($7,500)	($7,500)	($7,500)	($22,500)
Depreciation	($15,000)	($15,000)	($15,000)	($45,000)
Budgeted Net Income	$329,012	$698,612	$170,612	$1,198,236

.Working notes:

b)
Earrings Unlimited
Schedule of Expected Cash Collections
	April (a)	May (b)	June (c )	Quarter (a+b+c)
Cash collections from:
February sales (26,200*$11*10/100)	$28,820			$28,820
March sales (40,200*$11*70/100); (40,200*$11*10/100)	$308,540	$44,220		$352,760
April sales (65,200*$11*20/100); (65,200*$11*70/100); (65,200*$11*10/100)	$143,440	$502,040	$71,720	$717,200
May sales (100,200*$11*20/100); (100,200*$11*70/100)		$220,440	$771,540	$991,980
June sales (50,200*$11*20/100)			$110,440	$110,440
Total Cash Collections	$480,800	$766,700	$953,700	$2,201,200
c)
Earrings Unlimited
Merchandise Purchases Budget
	April (a)	May (b)	June (c )	Quarter (a+b+c)
Budgeted unit sales	65,200	100,200	50,200	215,600
Add: Desired ending inventory (100,200*40/100); (50,200*40/100); (30,200*40/100)	40,080	20,080	12,080	72,240
Total Needs	105,280	120,280	62,280	287,840
Less: Beginning inventory (last month's ending inventory will be the beginning inventory in current month) (65,200*40/100)	26,080	40,080	20,080	86,240
Units required to purchase (a)	79,200	80,200	42,200	201,600
Unit cost (b)	$4.10	$4.10	$4.10	$4.10
Required dollar purchases (a*b)	$324,720	$328,820	$173,020	$826,560
d)
Earrings Unlimited
Schedule of Expected Cash Disbursements for Merchandise Purchases
	April (a)	May (b)	June (c )	Quarter (a+b+c)
Cash disbursements for merchandise purchase:
March Purchases (40,200 + 40%*65,200 - 40%*40,200 = 50,200 * $4.10 * 1/2)	$102,910			$102,910
April Purchases ($324,720*1/2); ($324,720*1/2)	$162,360	$162,360		$324,720
May Purchases ($328,820*1/2); ($328,820*1/2)		$164,410	$164,410	$328,820
June Purchases ($173,020*1/2)			$86,510	$86,510
Total Cash Disbursements for Merchandise Purchases	$265,270	$326,770	$250,920	$842,960