Case 6 Cash Budgeting Getting Our Act Together “I know that I have got to do better short-term planning” said Jerry Stei
Posted: Wed Apr 27, 2022 1:07 pm
Case 6
Cash Budgeting
Getting Our Act Together
“I know that I have got to do better short-term planning”
said Jerry Steinhart to his wife, Judy, as he put down the
telephone. “Jack, our bank manager, is getting rather anxious about
our recurrent cash shortfalls. He just cautioned me that the bank
might have to raise their rates on us if another overdraft occurs.
That can really hurt us and our suppliers are not happy
either.”
Jerry Steinhart, the owner of Integrated Electronics, had
operated a fairly successful retail outlet for electronic goods
over the past five years. The firm had two locations and over the
past year had expanded quite significantly into the wholesale
supply of electronic components as well. Revenues were up by 20%
over the past year and net profits had increased by about 10%.
However, ever since the company got involved in the wholesale
supply business their cash account had fluctuated significantly
during the year resulting in 4 overdraft notices from the bank.
About six months ago the company had set up” an overdraft
protection reserve account (First Reserve Account) with a limit of
$50,000 with their bank, but even that amount had been exceeded a
couple of times.
“Why don’t you ask your MBA intern, Sean Ferguson, to
prepare a monthly cash budget for the firm for the next twelve
months?” asked Judy. “I think he has spent too much time analyzing
our “just-in-time” inventory system and should be able to put his
excellent financial skills to better use.”
“That’s the best suggestion you have made in a long
time,” joked Jerry with a chuckle. “ I will meet with him first
thing tomorrow morning. I think we better get our act together
before our suppliers and creditors start locking us out!”
At their meeting, Jerry presented Sean with sales
projections for the next thirteen months as shown in Table 1. The
financial staff of Integrated Electronics had done a fairly good
job of tracking its sales and purchases over time and had projected
monthly sales for the next year. These projections were based on
historical trends and feedback from the sales staff. Retail sales
were mostly made on a cash basis but wholesale orders carried
credit terms ranging from 30 to 60 days. As a result, typically,
30% of their monthly sales were collected on a cash basis in the
same month, with another 40% in the following month on a credit
basis, and the rest in 60 days. On average, 2% of each month’s
credit sales were deemed to be bad debts. Sales in November and
December of the previous year amounted to $750,000 and $825,000
respectively.
Purchases typically amounted to 75% of the following month’s
projected sales and were paid for in the month following delivery.
The firm employed a staff of about 30 employees and paid out
salaries of $60,000 per month. Interest payments amounted to $4,000
per month, and other expenses were estimated to be $9,000 per
month. The depreciation on fixed assets was calculated to be
$10,000 for the coming year. The firm had already approved a
request to purchase new computer equipment for $25,000, the payment
for which would have to be made in June of the following year. The
accountants estimated that taxes for the coming year would amount
to $580,000 and would be paid on a quarterly basis.
Questions:
Q1: Even though sales have been increasing, why is Integrated
Electronics in such a cash flow crunch? What does the firm need to
do as soon as possible?
Q2: Prepare the collections worksheet. Which month has the greatest
amount of cash inflows?
Q3: Prepare the disbursements worksheet. Which months seem to be
hit by the highest amount of cash outflows? Why? Can this trend be
changed?
Q4: How should the depreciation expense be treated in the cash
budget?
Q5: Which months seem to be particularly vulnerable to cash
deficits? Which months have the greatest surpluses?
Q6: If the cash balance outstanding is -$62,000, help Sean develop
a cash budget for Integrated Electronics for the next twelve
months. How can Jerry use the cash budget to minimize cash
shortages and plan for the future?
Q7: Given that the monthly sales figures have been fluctuating
so much what should Sean do while preparing the cash budget? Can he
take the sales figures provided by the finance department at face
value? If so why? If not why? What other options does he
have?
Q8: How can a minimum cash balance be built in? How much of a
minimum cash balance seems warranted? What can the company do with
the excess cash that is generated in some months?
Q9: Rework the budget by using your suggested minimum cash
balance.
Q10: Rework the budget by using your suggestions from previous
questions (particularly Q3, Q6, and Q9). Also include any interest
from borrowing and investing. What is you recommendation for the
firm?
Cash Budgeting
Getting Our Act Together
“I know that I have got to do better short-term planning”
said Jerry Steinhart to his wife, Judy, as he put down the
telephone. “Jack, our bank manager, is getting rather anxious about
our recurrent cash shortfalls. He just cautioned me that the bank
might have to raise their rates on us if another overdraft occurs.
That can really hurt us and our suppliers are not happy
either.”
Jerry Steinhart, the owner of Integrated Electronics, had
operated a fairly successful retail outlet for electronic goods
over the past five years. The firm had two locations and over the
past year had expanded quite significantly into the wholesale
supply of electronic components as well. Revenues were up by 20%
over the past year and net profits had increased by about 10%.
However, ever since the company got involved in the wholesale
supply business their cash account had fluctuated significantly
during the year resulting in 4 overdraft notices from the bank.
About six months ago the company had set up” an overdraft
protection reserve account (First Reserve Account) with a limit of
$50,000 with their bank, but even that amount had been exceeded a
couple of times.
“Why don’t you ask your MBA intern, Sean Ferguson, to
prepare a monthly cash budget for the firm for the next twelve
months?” asked Judy. “I think he has spent too much time analyzing
our “just-in-time” inventory system and should be able to put his
excellent financial skills to better use.”
“That’s the best suggestion you have made in a long
time,” joked Jerry with a chuckle. “ I will meet with him first
thing tomorrow morning. I think we better get our act together
before our suppliers and creditors start locking us out!”
At their meeting, Jerry presented Sean with sales
projections for the next thirteen months as shown in Table 1. The
financial staff of Integrated Electronics had done a fairly good
job of tracking its sales and purchases over time and had projected
monthly sales for the next year. These projections were based on
historical trends and feedback from the sales staff. Retail sales
were mostly made on a cash basis but wholesale orders carried
credit terms ranging from 30 to 60 days. As a result, typically,
30% of their monthly sales were collected on a cash basis in the
same month, with another 40% in the following month on a credit
basis, and the rest in 60 days. On average, 2% of each month’s
credit sales were deemed to be bad debts. Sales in November and
December of the previous year amounted to $750,000 and $825,000
respectively.
Purchases typically amounted to 75% of the following month’s
projected sales and were paid for in the month following delivery.
The firm employed a staff of about 30 employees and paid out
salaries of $60,000 per month. Interest payments amounted to $4,000
per month, and other expenses were estimated to be $9,000 per
month. The depreciation on fixed assets was calculated to be
$10,000 for the coming year. The firm had already approved a
request to purchase new computer equipment for $25,000, the payment
for which would have to be made in June of the following year. The
accountants estimated that taxes for the coming year would amount
to $580,000 and would be paid on a quarterly basis.
Questions:
Q1: Even though sales have been increasing, why is Integrated
Electronics in such a cash flow crunch? What does the firm need to
do as soon as possible?
Q2: Prepare the collections worksheet. Which month has the greatest
amount of cash inflows?
Q3: Prepare the disbursements worksheet. Which months seem to be
hit by the highest amount of cash outflows? Why? Can this trend be
changed?
Q4: How should the depreciation expense be treated in the cash
budget?
Q5: Which months seem to be particularly vulnerable to cash
deficits? Which months have the greatest surpluses?
Q6: If the cash balance outstanding is -$62,000, help Sean develop
a cash budget for Integrated Electronics for the next twelve
months. How can Jerry use the cash budget to minimize cash
shortages and plan for the future?
Q7: Given that the monthly sales figures have been fluctuating
so much what should Sean do while preparing the cash budget? Can he
take the sales figures provided by the finance department at face
value? If so why? If not why? What other options does he
have?
Q8: How can a minimum cash balance be built in? How much of a
minimum cash balance seems warranted? What can the company do with
the excess cash that is generated in some months?
Q9: Rework the budget by using your suggested minimum cash
balance.
Q10: Rework the budget by using your suggestions from previous
questions (particularly Q3, Q6, and Q9). Also include any interest
from borrowing and investing. What is you recommendation for the
firm?