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In: Accounting

You have just been hired as a new management trainee by Earrings Unlimited, a distributor of...

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—$18 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)

22,800

June (budget)

52,800

February (actual)

28,800

July (budget)

32,800

March (actual)

42,800

August (budget)

30,800

April (budget)

67,800

September (budget)

27,800

May (budget)

102,800

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 $5.4 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

$

340,000

Rent

$

32,000

Salaries

$

134,000

Utilities

$

14,000

Insurance

$

4,400

Depreciation

$

28,000

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

The company plans to purchase $23,000 in new equipment during May and $54,000 in new equipment during June; both purchases will be for cash. The company declares dividends of $25,500 each quarter, payable in the first month of the following quarter.

A listing of the company’s ledger accounts as of March 31 is given below:

Assets

Cash

$

88,000

Accounts receivable ($51,840 February sales;$616,320 March sales)

668,160

Inventory

146,448

Prepaid insurance

28,000

Property and equipment (net)

1,090,000

Total assets

$

2,020,608

Liabilities and Stockholders’ Equity

Accounts payable

$

114,000

Dividends payable

25,500

Common stock

1,080,000

Retained earnings

801,108

Total liabilities and stockholders’ equity

$

2,020,608

The company maintains a minimum cash balance of $64,000. 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 in increments of $1,000 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 would pay the bank all of the accumulated interest on the loan and as much of the loan as possible (in increments of $1,000), while still retaining at least $64,000 in cash.

Required:

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

a. A sales budget, by month and in total.

Sales Budget

April

May

June

Quarter

Budgeted unit sales

67,800

102,800

52,800

223,400

Selling price per unit

$18

$18

$18

$18

Total sales

$1,220,400

$1,850,400

$950,400

$4,021,200

b. A schedule of expected cash collections from sales, by month and in total.

Earrings Unlimited

Schedule of Expected Cash Collections

April

May

June

Quarter

February sales

$51,840

0

0

$51,840

March sales

539,280

77,040

0

616,320

April sales

244,080

854,280

122,040

1,220,400

May sales

0

370,080

1,295,280

1,665,360

June sales

0

0

190,080

190,080

Total cash collections

$835,200

$1,301,400

$1,607,400

$3,744,000

c. A merchandise purchases budget in units and in dollars. Show the budget by month and in total. (Round unit cost of purchases to 1 decimal place.)

Earrings Unlimited

Merchandise Purchases Budget

April

May

June

Quater

Budgeted unit sales

67,800

102,800

52,800

223,400

Add: Desired ending merchandise inventory

41,120

21,120

13,120

13,120

Total needs

108,920

123,920

65,920

236,520

Less: Beginning merchandise inventory

27,120

41,120

21,120

27,120

Required purchases

81,800

82,800

44,800

209,400

Unit cost

$5.4

$5.4

$5.4

$5.4

Required dollar purchases

$441,720

$447,120

$241,920

$1,130,760

d. A schedule of expected cash disbursements for merchandise purchases, by month and in total.

Earrings Unlimited

Budgeted Cash Disbursements for Merchandise Purchases

April

May

June

Quarter

Accounts payable

$114,000

$0

$0

$114,000

April purchases

220,860

220,860

0

441,720

May purchases

0

223,560

223,560

447,120

June purchases

0

0

120,960

120,960

Total cash payments

$334,860

$444,420

$344,520

1,123,800

2. A cash budget. Show the budget by month and in total. (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

$88,000

$64,024

$303,988

$88,000

Add collections from customers

835,200

1,301,400

1,607,400

3,744,000

Total cash available

923,200

1,365,424

1,911,388

3,832,000

Less cash disbursements:

Merchandise purchases

334,860

444,420

344,520

1,123,800

Advertising

340,000

340,000

340,000

1,020,000

Rent

32,000

32,000

32,000

96,000

Salaries

134,000

134,000

134,000

402,000

Commissions

48,816

74,016

38,016

160,848

Utilities

14,000

14,000

14,000

42,000

Equipment purchases

0

23,000

54,000

77,000

Dividends paid

25,500

0

0

25,500

Total cash disbursements

929,176

1,061,436

956,536

2,947,148

Excess (deficiency) of cash available over disbursements

(5,976)

303,988

954,852

884,852

Financing:

Borrowings

70,000

0

0

70,000

Repayments

0

0

(70,000)

(70,000)

Interest

0

0

(2,100)

(2,100)

Total financing

70,000

0

(72,100)

(2,100)

Ending cash balance

$64,024

$303,988

$882,752

$882,752

3. A budgeted income statement for the three-month period ending June 30. Use the contribution approach

Earrings Unlimited

Budgeted Income Statement

For the Three Months Ended June 30

Variable expenses:

0

0

Fixed expenses:

0

0

0

4. A budgeted balance sheet as of June 30

Earrings Unlimited

Budgeted Balance Sheet

June 30

Assets

Total assets

$0

Liabilities and Stockholders’ Equity

Total liabilities and stockholders’ equity

$0

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