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 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—$14 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)	21,600	June (budget)	51,600
February (actual)	27,600	July (budget)	31,600
March (actual)	41,600	August (budget)	29,600
April (budget)	66,600	September (budget)	26,600
May (budget)	101,600

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 $4.80 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. 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	$	280,000
Rent	$	26,000
Salaries	$	122,000
Utilities	$	11,000
Insurance	$	3,800
Depreciation	$	22,000

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

The company plans to purchase $20,000 in new equipment during May and $48,000 in new equipment during June; both purchases will be for cash. The company declares dividends of $21,000 each quarter, payable in the first month of the following quarter.

The company’s balance sheet as of March 31 is given below:

Assets
Cash	$	82,000
Accounts receivable ($38,640 February sales; $465,920 March sales)		504,560
Inventory		127,872
Prepaid insurance		25,000
Property and equipment (net)		1,030,000
Total assets	$	1,769,432
Liabilities and Stockholders’ Equity
Accounts payable	$	108,000
Dividends payable		21,000
Common stock		960,000
Retained earnings		680,432
Total liabilities and stockholders’ equity	$	1,769,432

The company maintains a minimum cash balance of $58,000. 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 $58,000 in cash.

Required:

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

1. a. A sales budget, by month and in total. (Prepare a master budget for the three-month period ending June 30 that includes a sales budget, by month and in total.)

    b. A schedule of expected cash collections, by month and in total. (Prepare a master budget for the three-month period ending June 30 that includes a schedule of expected cash collections, by month and in total.)

    c. A merchandise purchases budget in units and in dollars. Show the budget by month and in total. (Prepare a master budget for the three-month period ending June 30 that includes a merchandise purchases budget in units and in dollars. Show the budget by month and in total. (Round unit cost to 2 decimal places.))

    d. A schedule of expected cash disbursements for merchandise purchases, by month and in total. (Prepare a master budget for the three-month period ending June 30 that includes a schedule of expected cash disbursements for merchandise purchases, by month and in total.)

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 $58,000. (Prepare a master budget for the three-month period ending June 30 that includes 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 $58,000. (Cash deficiency, repayments and interest should be indicated by a minus sign.))

3. A budgeted income statement for the three-month period ending June 30. Use the contribution approach. (Prepare a master budget for the three-month period ending June 30 that includes a budgeted income statement for the three-month period ending June 30. Use the contribution approach.)

4. A budgeted balance sheet as of June 30. (Prepare a master budget for the three-month period ending June 30 that includes a budgeted balance sheet as of June 30.)

Answer 1

Part 1

Sales budget

	April	May	June	Quarter
Budgeted unit sales	66600	101600	51600	219800
Selling price per unit	14	14	14	14
Total sales	932400	1422400	722400	3077200

Part 2

Schedule of Expected Cash Collections:

	April	May	June	Quarter
February sales (27600*14=386400)*10%	38640			38640
March sales (41600*14=582400)*70%, 10%	407860	58240		466100
April sales 932400*20%, 70%, 10%	186480	652680	93240	932400
May sales 1422400*20%, 70%		284480	995680	1280160
June sales 722400*20%			144480	144480
Total Cash Collections	632980	995400	1233400	2861780

Part 3

Merchandise Purchases Budget:

	April	May	June	Quarter
Budgeted unit sales	66600	101600	51600	219800
Plus: desired ending inventory (40%)	40640	20640	12640	12640
Total needs	107240	122240	64240	232440
Minus: Beginning inventory	26640	40640	20640	26640
Required to purchase	80600	81600	43600	205800
Cost of purchase @$4.80 /unit	386880	391680	209280	987840

Desired Ending Inventory: 40% of the next month's unit sale

Part 4

Budgeted cash disbursements for merchandise purchases:

	April	May	June	Quarter
Accounts payable	108000			108000
April purchases	193440	193440		386880
May purchases		195840	195840	391680
June purchases			104640	104640
Total cash payments	301440	389280	300480	991200

Part 5

EARRINGS LIMITED CASH BUDGET FOR THE THREE MONTHS ENDING JUNE 30
	April	May	June	Quarter
Cash balance (beginning)	82000	58244	148468	82000
Plus: collections from customer	632980	995400	1233400	2861780
Total cash balance	714980	1053644	1381868	2070000
Minus: disbursements
Merchandise purchases	301440	389280	300480	991200
Advertising	280000	280000	280000	840000
Rent	26000	26000	26000	78000
Salaries	122000	122000	122000	366000
Commissions (4% of sales)	37296	56896	28896	123088
Utilities	11000	11000	11000	33000
Equipment purchases	0	20000	48000	68000
Dividends paid	21000	0	0	21000
Total disbursements	798736	905176	816376	2520288
Excess (deficiency) of receipts over disbursement	(83756)	148468	565492	423492
Financing:
Borrowings	142000			142000
Repayments			(142000)	(142000)
Interests			(4260)	(4260)
Total financing	142000		(146260)	(4260)
Cash balance ending	58244	148468	419232	419232

Part 6

EARRINGS UNLIMITED BUDGETED INCOME STATEMENT FOR THE THREE MONTHS ENDED JUNE 30
Sales in units		219800
Sales		3077200
Variable expenses:
Cost of goods sold	991200
Commissions	123088	1114288
Contribution margin		1962912
Fixed expenses:
Advertising	840000
Rent	78000
Salaries	366000
Utilities	33000
Insurance	11400
Depreciations	66000	1394400
Net operating income		568512
Minus: operating expense		4260
Net income		564252

Part 7

EARRINGS UNLIMITED BUDGETED BALANCE SHEET JUNE 30
Assets:
Cash	419232
Accounts receivable (1422400*10%)+(722400*80%)	720160
Inventory (12640*4.80)	60672
Prepaid insurance (25000-11400)	13600
Property and equipment, net (1030000+68000-66000)	1032000
Total assets	2245664
Liabilities and equity:
Accounts payable, purchases	104640
Dividends payable	21000
Capital stock, no par	960000
Retained earnings	1223684
Total liabilities and equity	2309324
Accounts receivable at June 30:
May sales (1422400*10%)	142240
June sales (722400*80%)	577920
Total	720160
Retained earnings at June 30:
Balance, March 31	680432
Plus: net income	564252
Total	1244684
Minus: dividends declared	21000
Balance June 30	1223684