CASE 6B â CHESTER & WAYNE
Chester & Wayne is a regional food distribution company.
Mr. Chester, CEO, has asked your assistance in preparing cash-flow information
for the last three months of this year. Selected accounts from an interim
balance sheet dated September 30, have the following balances:
Cash $142,100 Accounts
payable $354,155
Marketable securities 200,000 Other
payables 53,200
Accounts receivable $1,012,500
Inventories 150,388
Mr. Wayne, CFO, provides you with the following information
based on experience and management policy. All sales are credit sales and are
billed the last day of the month of sale.
Customers paying within 10 days of the billing date may take
a 2 percent cash discount. Forty percent of the sales is paid within the
discount period in the month following billing. An additional 25 percent pays
in the same month but does not receive the cash discount. Thirty percent is
collected in the second month after billing; the remainder is uncollectible.
Additional cash of $24,000 is expected in October from renting unused warehouse
space.
Sixty percent of all purchases, selling and administrative
expenses, and advertising expenses is paid in the month incurred. The remainder
is paid in the following month. Ending inventory is set at 25 percent of the
next month’s budgeted cost of goods sold. The company’s gross profit averages
30 percent of sales for the month. Selling and administrative expenses follow
the formula of 5 percent of the current month’s sales plus $75,000, which includes
depreciation of $5,000. Advertising expenses are budgeted at 3 percent of
sales.
Actual and budgeted sales information is as follows:
Actual: Budgeted:
August $750,000 October
$826,800
September 787,500 November
868,200
December
911,600
January
930,000
The company will acquire equipment costing $250,000 cash in
November. Dividends of $45,000 will be paid in December. The company would like
to maintain a minimum cash balance at the end of each month of $120,000. Any
excess amounts go first to repayment of short-term borrowings and then to investment
in marketable securities. When cash is needed to reach the minimum balance, the
company policy is to sell marketable securities before borrowing.
The company will acquire equipment costing $250,000 cash in November.
Dividends of $45,000 will be paid in December.
The company would like to maintain a minimum cash balance at
the end of each month of $120,000. Any excess amounts go first to repayment of
short-term borrowings and then to investment in marketable securities. When
cash is needed to reach the minimum balance, the company policy is to sell
marketable securities before borrowing.
Questions (use of spreadsheet software is recommended):
1. Prepare a cash budget for each month of the fourth
quarter and for the quarter in total. Prepare supporting schedules as needed.
(Round all budget schedule amounts to the nearest dollar.)
2. You meet with Mr. Chester and Mr. Wayne to present your
findings and happen to bring along your PC with the budget model software. They
are worried about your findings in Part 1. They have obviously been arguing
over certain assumptions you were given.
a. Mr. Wayne thinks that the gross margin may shrink to 27.5
percent because of higher purchase prices. He is concerned about what impact
this will have on borrowings. Comment.
b. Mr. Chester thinks that “stock outs” occur too frequently
and wants to see the impact of increasing inventory levels to 30 and 40 percent
of next quarter’s sales on their total investment. Comment on these changes.
c. Mr. Wayne wants to discontinue the cash discount for
prompt payment. He thinks that maybe collections of an additional 20 percent of
sales will be delayed from the month of billing to the next month. Mr. Chester
says “That’s ridiculous! We should increase the discount to 3 percent.
Twenty percent more would be collected in the current month to get the higher
discount.” Comment on the cash flow impacts.
