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—$13 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)	21,400	June (budget)	51,400
February (actual)	27,400	July (budget)	31,400
March (actual)	41,400	August (budget)	29,400
April (budget)	66,400	September (budget)	26,400
May (budget)	101,400

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 $4.70 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	$	270,000
Rent	$	25,000
Salaries	$	120,000
Utilities	$	10,500
Insurance	$	3,700
Depreciation	$	21,000

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

The company plans to purchase $19,500 in new equipment during May and $47,000 in new equipment during June; both purchases will be for cash. The company declares dividends of $20,250 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	$	81,000
Accounts receivable ($35,620 February sales; $430,560 March sales)		466,180
Inventory		124,832
Prepaid insurance		24,500
Property and equipment (net)		1,020,000
Total assets	$	1,716,512
Liabilities and Stockholders’ Equity
Accounts payable	$	107,000
Dividends payable		20,250
Common stock		940,000
Retained earnings		649,262
Total liabilities and stockholders’ equity	$	1,716,512

The company maintains a minimum cash balance of $57,000. 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 $57,000 in cash.

Required:

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

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 $57,000.

3. 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.

Answer 1

Answer 1.

Budgeted Unit Sales Selling Price per unit Total Sales Sales Budget April 66400 13.00 863 200 May 101400 13.00 1318200 June 61400 13.00 798200 Quarter 229200 13.00 2979600 June Earrings Unlimited Schedule of Expected Cash Collections April May 35620 376740 53820 172640 604240 263640 Quarter 35620 February Sales March Sales April Sales May Sales June Sales Total Cash Collections 86320 922740 159640 1168 700 430560 863200 11863 80 159640 2675400 585000 9 21700

Earrings Unlimited Merchandise Purchases Budget April May Budgeted Unit Sales 66400 101400 Add: desired Ending Inventory Inventory 40560 24560 Total Needs 106960 125960 Less: Beginning Merchandise Inventory 26560 40560 Required Purchases 80400 85400 Unit Cost 4.70 4.70 Required Dollar Purchases 377880 401380 June 61400 12560 73960 24560 49400 4.70 232180 Quarter 229200 12560 241760 26560 215200 4.70 1 011440 Accounts Payable April Purchases May Purchases June Purchases Total Cash Payments Earrings Unlimited Budgeted Cash Disbursements for Merchandise Purchases April May June 107000 188940 188940 200690 200690 116090 295940 389630 316780 Quarter 107000 377880 401380 116090 1002350

Answer 2.

| May 57782 921 700 979482 June 92124 1168 700 1260824 Quarter 81000 2675400 2756400 Earrings Unlimited Cash Budget April Beginning Cash Balance 81000 Add: Collection from Customers 585000 Total Cash Available 666000 Less: Cash Disbursements Merchandise Purchases 295940 Advertising 270000 Rent 25000 Salaries 120000 Commissions 34528 Utilities 10500 Equipment Purchases 0 Dividend Paid 20250 Total Cash Disbursements 776218 Excess of Cash Available Over Disbursements -110218 Financing: Borrowings 168000 Repayments 0 Interest Total Financing 168000 Ending Cash Balance 57782 Interest = $168,000 * 1% * 3 = $5,040 389630 270000 25000 120000 52728 10500 19500 316780 270000 25000 120000 31928 10500 47000 1002350 810000 75000 360000 119184 31500 66500 20250 2484784 271616 887358 92124 821208 439616 0 0 -168000 -5040 -173040 2665 76 168000 -168000 -5040 -5040 266576 0 92124

Answer 3.

2979600 1196424 1783176 Earrings Unlimited Budgeted Income Statement For the Three Months ended June 30 Sales Less: Variable expenses Cost of goods sold 1077240 Sales commission 119184 Contribution margin Less: Fixed expenses Advertising 810000 75000 Salaries 360000 Utilities 31500 Insurance 11100 Depreciation 63000 Net Operating income Interest Expense Net income Rent 1350600 432576 5040 427536

Answer 4.

266576 770380 Earrings Unlimited Budgeted Balance Sheet June 30 Assets Cash Accounts Receivable (May sales $131,820; June sales $638,560) Inventory Prepaid insurance Property, plant and equipment (net) Total assets Liabilities and Stockholders' Equity Accounts payable Dividends payable Common Stock Retained earnings Total liabilities and stockholder's equity 59032 13400 1023500 2132888 116090 20250 940000 1056548 2132888