Question

Question 1

Ceylon Ltd produces and sells product X. The company is in the process of preparing its budgets for the first 6 months of 2020, and it expects sales units in January, February and March 2020 to be 12,000; 15,000 and 18,000 units respectively. Thereafter, it is expected that sales will increase at a rate of 20% per month until June 2020.

The following information regarding Product X is provided in the table below. It is expected that selling price and costs will remain stable in the foreseeable future.

	Product X
	£ per unit
Selling Price	£325.00
Variable Costs of production
Direct Material A (£15 per kg)	£45.00
Unskilled Labour (£8 per hour)	£16.00
Skilled labour (£20 per hour)	£80.00
Variable production overhead (£10 per unit)	£10.00
Other variable Cost
Selling Cost (£4 per unit)	£4.00

The management accountant has provided further information below:

• Company policy is for closing inventory (stock) of product X to be equal to 10% of next month’s budgeted sales. There are 1,200 units of X in inventory as at 31^st of December 2019.
• Closing inventory of material A is to be equal to 20% of next month’s usage (production requirements). On December 31^st, there were 7,380 kg of material A on hand. The company pays half of its material purchases in the same month the purchases are made, and the other half is paid the following month.
• All of the company’s labour are on zero hour contracts and are therefore only paid for their actual work in the same month the work is undertaken.
• The company takes two months to pay for the variable production overheads incurred.
• The selling costs vary with sales units and are paid for one month in arrears.
• Other costs are the fixed production overhead of £800,000 per month, which includes a fixed monthly depreciation charge of £90,000.
• Cash collected from sales for a month are as follows: Fifty per cent (50%) of a month’s sales revenue are received the month following the sale. Twenty per cent (20%) of sales are collected two months following the sales and the remainder, (30%), are cash sales. Ceylon Ltd allows a 5% cash discount on all its cash sales and the company does not anticipate any bad debts in the foreseeable future.
• The company will purchase a new Buildings Insurance from January 2020. The cost will be £125,000 per month for January to April and £180,000 per month for May and June 2020. This insurance cost will be paid one month in advance.
• The company will pay a cash dividend of £2,000,000 in April 2020.

REQUIRED

1. Prepare Ceylon Ltd.’s Cash Budget for the month of April 2020 only. [Assume that the company will have a cash balance of £300,000 on 1^st of April].

                             

2. Discuss the key steps that a company such as Ceylon Ltd will undertake in the strategic planning, budgeting and control process. What are the advantages and limitations of budgeting and the alternatives to budgeting? (maximum of 600 words).   

Answer 1

a.

Ceylon Ltd. Cash Budget For the month of April 2020
Beginning cash balance		300,000
Add: Cash received from customers
Cash sales of April ( 21,600 x 325 x 30 % x 0.95 )	2,000,700
Credit sales of March ( 18,000 x 325 x 50 % )	2,925,000
Credit sales of February ( 15,000 x 325 x 20 % )	975,000	5,900,700
Total cash available		6,200,700
Less: Cash disbursements for
Purchase of direct materials	945,171
Direct labor ( 22,032 x 96 )	2,115,072
Variable production overhead	153,000
Selling costs	72,000
Fixed production overheads	710,000
Purchase of insurance	180,000
Cash dividends	2,000,000
Total cash disbursements		6,175,243
Ending cash balance		25,457

Workings:

i.

Production Budget
	February	March	April	May
Budgeted Sales in Units	15,000	18,000	21,600	25,920
Add: Desired ending inventory	1,800	2,160	2,592	3,110
Total inventory needed	16,800	20,160	24,192	29,030
Less: Beginning inventory	1,500	1,800	2,160	2,592
Required production in units	15,300	18,360	22,032	26,438

ii.

Direct Materials Budget
	March	April	May
Production in units	18,360	22,032	26,438
Direct material qty. per unit	x 3 kg.	x 3 kg.	x 3 kg.
Direct materials required in production	55,080	66,096	79,314
Add: Desired ending inventory	13,219.20	15,862.80
Total direct materials needed	68,299.20	81,958.80
Less: Beginning inventory	11,016	13,219.20
Budgeted purchases in kgs.	57,283.20	68,739.60
Cost per kg.	15	15
Budgeted cost of direct materials purchases	859,248	1,031,094