You have just been hired as a new management trainee by Earrings Unlimited, a di

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—$20 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) 23,200 June (budget) 53,200 February (actual) 29,200 July (budget) 33,200 March (actual) 43,200 August (budget) 31,200 April (budget) 68,200 September (budget) 28,200 May (budget) 103,200 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 $5.6 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 $ 360,000 Rent $ 34,000 Salaries $ 138,000 Utilities $ 15,000 Insurance $ 4,600 Depreciation $ 30,000 Insurance is paid on an annual basis, in November of each year. The company plans to purchase $24,000 in new equipment during May and $56,000 in new equipment during June; both purchases will be for cash. The company declares dividends of $27,000 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 $ 90,000 Accounts receivable ($58,400 February sales; $691,200 March sales) 749,600 Inventory 152,768 Prepaid insurance 29,000 Property and equipment (net) 1,110,000 Total assets $ 2,131,368 Liabilities and Stockholders’ Equity Accounts payable $ 116,000 Dividends payable 27,000 Common stock 1,120,000 Retained earnings 868,368 Total liabilities and stockholders’ equity $ 2,131,368 The company maintains a minimum cash balance of $66,000. 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 $66,000 in cash.

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

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

A cash budget. Show the budget by month and in total. (Cash deficiency, repayments and interest should be indicated by a minus sign.)

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

Explanation / Answer

a) SALES BUDGET april may june total Sales units-pairs of earnings 68200 103200 53200 224600 Sales in $ 1364000 2064000 1064000 4492000 b) Schedule of expected cash collections april may june total july aug from sale of january 464000 february 584000 58400 58400 march 864000 604800 86400 691200 april 1364000 272800 954800 136400 1364000 may 2064000 412800 1444800 1857600 206400 june 1064000 212800 212800 744800 106400 936000 1454000 1794000 4184000 951200 106400 c) Merchandise purchases budget desired ending inventory-units 41280 21280 13280 13280 sales - units 68200 103200 53200 224600 total units required 109480 124480 66480 237880 less: beginning inventory - units 27280 41280 21280 27280 purchases to be made in units 82200 83200 45200 210600 purchases in dollars 460320 465920 253120 1179360 d) Schedule of expected cash disbursements for merchandise purchases against purchases of march 116000 116000 april 460320 230160 230160 460320 may 465920 232960 232960 465920 june 253120 126560 126560 126560 346160 463120 359520 1168800 2) Cash Budget beginning balance of cash 90000 66280 403600 90000 receipts: accounts receivables 936000 1454000 1794000 4184000 cash available 1026000 1520280 2197600 4274000 payments: merchandise suppliers 346160 463120 359520 1168800 sales commission 54560 82560 42560 179680 advertising 360000 360000 360000 1080000 rent 34000 34000 34000 102000 salaries 138000 138000 138000 414000 utilities 15000 15000 15000 45000 equipment purchase 0 24000 56000 80000 dividend 27000 0 0 27000 total disbursements 974720 1116680 1005080 3096480 Surplus/deficit 51280 403600 1192520 1177520 Bank borrowings 15000 0 0 15000 Repayments 0 0 -15000 -15000 Interest 0 0 -450 -450 ending balance of cash 66280 403600 1177070 1177070 3) Budgeted Income statement for the quarter Sales revenue 4492000 Less: Variable cost of goods sold 1257760 Gross contribution margin 3234240 Less: Varible Sales commission 179680 Contribution margin 3054560 Less: Fixed costs advertising 1080000 rent 102000 salaries 414000 utilities 45000 insurance 13800 depreciation 90000 1744800 Operating Income 1309760 Less: Interest 450 Net Income 1309310 4) Budgeted Balance Sheet ASSETS: Current Assets: cash 1177070 accounts receivable 1057600 prepaid insurance 15200 inventory 74368 2324238 Property, plant & equipment (net) 1100000 TOTAL ASSETS 3424238 LIABILITIES: Current liabilities: accounts payable 126560 dividend payable 27000 153560 Equity: common stock 1120000 retained earnings 2150678 3270678 TOTAL LIABILITIES & EQUITY 3424238

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