Question

Case 8-33 (Algo) Master Budget with Supporting Schedules [LO8-2, LO8-4, LO8-8, LO8-9, LO8-10]
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—$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 $5.40 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   $   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.

The company’s balance sheet 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:

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.

b. 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.

d. 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 $64,000.

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

Required Budgets are as prepared below:

1a
Earings unlimited
Sales Budget
For the quarter ended June 30
	Month
Particulars	April	May	June	Total
Budgeted Unit sales	67,800	102,800	52,800	223,400
Sale Price	18	18	18	18
Budgeted sales	1,220,400	1,850,400	950,400	4,021,200
1b.
Earings unlimited
Schedule of expected Cash collections
For the quarter ended June 30
	Month
Particulars	April	May	June	Total
Beginning Accounts Receivable
February sales (28,800*18*10%)	51,840			51,840
March sales (42,800*18*70%)	539,280			539,280
March sales (42,800*18*10%)		77,040		77,040
April Credit Sales	244,080	854,280	122,040	1,220,400
May Credit Sales		370,080	1,295,280	1,665,360
June Credit sales			190,080	190,080
Total collections	835,200	1,301,400	1,607,400	3,744,000
Account receivable for June Sale			760,320
Account receivable for May Sale			185,040
1c.
Earings unlimited
Merchandise Purchase Budget
For the quarter ended June 30
	Month
Particulars	April	May	June	Total
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 purchase	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
1d.
Earings unlimited
Schedule of expected Cash payments
For the quarter ended June 30
	Month
Particulars	April	May	June	Total
Beginning Accounts Payable (a)	$114,000			$114,000
April Purchases (b)	$220,860	$220,860		$441,720
May Purchases (c )		$223,560	$223,560	$447,120
June Purchases (d)			$120,960	$120,960
Total payments (a+b+c+d)	$334,860	$444,420	$344,520	$1,123,800
Earings unlimited
Commission
For the quarter ended June 30
	Month
Particulars	April	May	June	Total
Budgeted Unit sales	67,800	102,800	52,800	223,400
Sale Price	18	18	18	18
Budgeted sales	1,220,400	1,850,400	950,400	4,021,200
Sales commisssions (4% of sales)	48,816	74,016	38,016	160,848
2
Earings unlimited
Cash Budget
For the quarter ended June 30
	Month
Particulars	April	May	June	Total
Beginning Cash balance	88,000	64,024	303,988	88,000
Add: Collection from customers	$835,200	$1,301,400	$1,607,400	$3,744,000
cash available for use	$923,200	$1,365,424	$1,911,388	$3,832,000
Less: cash Disbursements
Merchandise purchase	$334,860	$444,420	$344,520	1,123,800
Advertising	340,000	340,000	340,000	1,020,000
Rent	32,000	32,000	32,000	96,000
Salaries	134,000	134,000	134,000	402,000
Commissions	48,816	74,016	38,016	160,848
Utilities	14,000	14,000	14,000	42,000
Equipment purchase		23,000	54,000	77,000
Dividend paid	25,500			25500
Total disbusrement	929,176	1,061,436	956,536	2,947,148
Cash surplus/Deficit	-5,976	303,988	954,852	884,852
Financing
Borrowing	70,000			70,000
Repayment			70,000	-70,000
Interest			1400	-1,400
Net cash from Financing	70,000	0	-71,400	-1,400
Budgeted ending cash balance	64,024	303,988	883,452	883,452
Earings Unlimited
Budgeted Income Statement
For the three month ended June 30
Particulars	Amount ($)	Amount ($)
Sales		4,021,200
Less: Cost of goods sold (223,400*5.4)		1,206,360
Variable expenses:
Commissions	160,848
Interest expense	1400
Insurance	13200
		175,448
Contribution Margin		2,639,392
Fixed Expenses:
Advertising	1,020,000
Rent	96,000
Salaries	402,000
Depreciation	84,000
Utilities	42,000	1,644,000
Net operating Income		995,392
Dividend Paid		25,500
Net Income		969,892
Earings Unlimited
Budgeted balance Sheet
Jun-30
Assets
Cash	883,452
Accounts Receivable	945,360
Inventory (13,120*5.4)	70,848
Property and equipment Net	1,083,000
Prepaid insurance	14,800
Total assets	2,997,460
Liabilities and Stockholders' Equity
Accounts Payable purchases	120,960
Dividend payable	25,500
Common Stock	1,080,000
Retained earnings	1,771,000
Total liabilities and stockholders' equity	2,997,460