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Solution 7/16/2015
Chapter: 16
Problem: 18
Input Data
Collections during month of sale 15%
Collections during month after sale 65%
Collections during second month after sale 20%
Lease payments $5,000
Target cash balance $40,000
General and administrative salaries $15,000
Depreciation charges $7,500
Sales, labor, and RM adjustment factor 0%
a. Prepare a monthly cash budget for the last six months of the year.
Rusty Spears, CEO of Rusty’s Renovations, a custom building and repair company, is preparing
documentation for a line of credit request from his commercial banker. Among the required documents is a
detailed sales forecast for parts of 2014 and 2015.
Estimates obtained from the credit and collection department are as follows: collections within the month of
sale, 15%; collections during the month following the sale, 65%; collections the second month following the
sale, 20%. Payments for labor and raw materials are typically made during the month following the one in
which these costs were incurred. Total costs for labor and raw materials are estimated for each month as
General and administrative salaries will amount to approximately $15,000 a month; lease payments under
long-term lease contracts will be $5,000 a month; depreciation charges will be $7,500 a month; miscellaneous
expenses will be $2,000 a month; income tax payments of $25,000 will be due in both September and
December; and a progress payment of $80,000 on a new office suite must be paid in October. Cash on hand
on July 1 will amount to $60,000, and a minimum cash balance of $40,000 will be maintained throughout the
Note: When the percent collected
during the second month after sale
is changed, the percent for
collections during month after sale
is automatically changed so that
100% of sales are collected during
May June July August September October November December January
Original sales estimates $60,000 $100,000 $130,000 $120,000 $100,000 $80,000 $60,000 $40,000 $30,000
Original labor and raw mat. estimates $75,000 $90,000 $95,000 $70,000 $60,000 $50,000 $20,000 $20,000
Forecasted Sales
Sales (gross) $60,000 $100,000 $130,000 $120,000 $100,000 $80,000 $60,000 $40,000 $30,000
Collections
During month of sale 19500 18000 15000 12000 9000 6000
During 1st month after sale 65000 84500 78000 65000 52000 39000
During 2nd month after sale 12000 20000 26000 24000 20000 16000
Total collections $96,500 $122,500 $119,000 $101,000 $81,000 $61,000
Purchases
Labor and raw materials $75,000 $90,000 $95,000 $70,000 $60,000 $50,000 $20,000 $20,000
Payments for labor and raw materials $90,000 $95,000 $70,000 $60,000 $50,000 $20,000
Payments
Payments for labor and raw materials 90,000 95,000 70,000 60,000 50,000 20,000
General and administrative salaries 15,000 15,000 15,000 15,000 15,000 15,000
Lease payments 5,000 5,000 5,000 5,000 5,000 5,000
Miscellaneous expenses 2,000 2,000 2,000 2,000 2,000 2,000
Income tax payments 25,000 25,000
Net cash flow (NCF): Total collections – Total payments ($15,500) $5,500 $2,000 ($61,000) $9,000 ($6,000)
Cumulative NCF: Prior month cumulative + this month's NCF $44,500 $50,000 $52,000 ($9,000) ($0) ($6,000)
Cash Surplus (or Loan Requirement)
Target cash balance $40,000 $40,000 $40,000 $40,000 $40,000 $40,000
Surplus cash or loan needed: Cum NCF – Target cash $4,500 $10,000 $12,000 ($49,000) ($40,000) ($46,000)
Max. Loan $49,000
Answer: No. In the first month, only a little of the cash would have come in by the 5th, but all of the payments
would have to be made. There would be a big cash shortfall. To solve the problem, we would need a
daily cash budget.
d. If the company operates on a seasonal basis, how would this affect the current ratio and the debt ratio?
Answer: Just before the busy season, the company would have some current assets, but not very much, and it
should have very little debt. Therefore, its current ratio should be high and its debt ratio low.
Then, as it goes into full production, it will have to obtain working capital, and borrow to do so.
Current assets will rise, but so will debt. This will lower the current ratio and raise the debt ratio.
Although the company will look better at certain times of the year than at others, lenders will
Answer: The "Sales adjustment factor" can be used to cause sales to vary from the base levels. Similarly, we
can change the percentage of late paying customers. Here is the relevant data table:
Change
in Sales
$49,000 0% 20% 30% 45% 60% 75% 90%
-100% $ 242,000 $ 242,000 $ 242,000 $ 242,000 $ 242,000 $ 242,000 $ 242,000
-75% $ 193,000 $ 193,000 $ 193,000 $ 193,000 $ 193,000 $ 193,000 $ 193,000
-50% $ 144,000 $ 144,000 $ 144,000 $ 144,000 $ 144,000 $ 144,000 $ 144,000
-25% $ 95,000 $ 95,000 $ 95,000 $ 95,000 $ 95,000 $ 96,500 $ 101,000
0% $ 46,000 $ 49,000 $ 53,000 $ 59,000 $ 65,000 $ 71,000 $ 77,000
25% $ 8,000 $ 18,000 $ 23,000 $ 30,500 $ 38,000 $ 45,500 $ 53,000
50% -$ 19,750 -$ 7,750 -$ 1,750 $ 7,250 $ 16,250 $ 30,750 $ 46,500
75% -$ 23,375 -$ 9,375 -$ 2,375 $ 8,125 $ 18,625 $ 31,875 $ 50,250
100% -$ 27,000 -$ 11,000 -$ 3,000 $ 9,000 $ 21,000 $ 33,000 $ 54,000
You can see from the table that, from the base case (collections = 20%, change in sales = 0%),
an increase in late payers increases the loan requirement. The pattern is mixed for the change
in sales. As sales increase, the maximum loan amount increases, to support the higher level
of sales. As sales decrease, the maximum amount gradually decreases. However, at very low
levels of sales, the loan amount increases since more cash is needed to cover the "fixed"
costs, such as lease payments and administrative salaries.
Maximum Loan Required
% Collections in 2nd month
of these two factors on the max loan requirement. Assume the purchases of labor and raw material also vary by the
sales adjustment factor.
