Live chat

Introduction

The assumption made in the preparation of the cash budget for the fourth quarter can have some impacts on the performance and operations of the Chester and Wayne Company. The assumptions made can only be reliable if certain economic conditions hold during the trading period. The three main assumptions that the company relies on are based on the gross margin, inventory, and cash discount. This report therefore gives clarifications regarding these three main assumptions and their impacts on the company.

Part a: The Profit Margin Assumption

The calculation is based in the assumption that gross margin for a particular month is 30 percent of the cost of current sales of the month. Mr. Wayne is concerned that gross margin will shrink to 27.5 per cent because of higher purchase price and is worried of the consequences that this will have in borrowing. When the gross profit of Chester and Wayne Company shrinks by 27.5 per cent then the gross margin of the company will reduce by an amount equivalent to 27.5 % of \$ 781980 which is equivalent to \$ 215, 045.  The decrease in the amount of gross margin will reduce the cash budget of the company.

## Buy Free Custom «Cash Budget Report» Essay Paper paper online

* Final order price might be slightly different depending on the current exchange rate of chosen payment system.

The company budget for the fourth quarter shows that there is excess amount of cash available that the company can spend to repay the short term borrowings. Each of the three months of the year  which constitute of the fourth quarter trading period have excess cash balances that can be channeled to repay the short term borrowing. The excess amount of cash balances after retaining the minimum balance of \$ 120,000 per month are \$ 656, 170, \$ 417, 293, and \$ 659, 168 for the months of October, November, and December respectively. The total amount of excess cash available for Chester and Wayne Company is equivalent to \$ 656, 170 + \$ 417 293 + \$ 659,168 which is \$ 1, 732,631

According to the calculation of the cash budget there are enough funds for the company that can be used in the payment of short term borrowing as well as investing in market securities. The reduction of the gross margin will therefore not have an impact on borrowing of the company since excess cash will still be available and the company can use it to fulfill other obligations that might be required within the period. The company’s cash budget also shows that there is a strong cash balance that is available at the end of each month of the quarter. This implies that there will be no borrowing by the company in case the gross margin shrinks by 27.5 per cent

Part b: The Inventory Assumption

The impacts of the occurrence of stock outs can cause severe damage to the operation of the company. The company can be exposed to a number of consequences as a result of lack of enough stocks. Some of the consequences that the company can experience when its runs out of stock during any trading period is loss of sales, loss of customers and subsequently a reduction of profit margin (Lerner & Stone, 2006). In some cases it can result to the company making losses as there are reduced or no sales due to lack of enough stock.

According to Mr. Chester there has be frequent occurrence of the company stock out scenario during the trading quarter. This makes Mr. Chester to consider increasing the inventory levels to 30 and 40 percent of the next quarter’s sales on their total investment. This is a good and recommendable precautionary measure for the company as it will ensures that there are reduced chances of consequences that the company might experience as a result of getting out of stock.

Stay Connected

Increasing the inventory level to 30 and 40 percent of the next quarter’s sales on their total investments will however not be reliable in solving the stock out problem. The money that is available for investment by the company will be \$ 1, 732,631 less the payment of short term borrowing. The value of short term borrowing is however not available. In the event that the company does not incur short term borrowing the whole amount of \$ 1, 732,631 will be available for investments in market securities.

The increase of inventory to 30 percent of the next quarter’s sales on investment will translate to an increase in inventory by an amount equivalent to \$ 519,789. This is because the company would have spent an amount equivalent to \$ 1, 732,631on investments for the next quarter.  Since the minimum amount of cash that the company require for the any trading month is \$ 120,000. For the quarter of a year the company will need a minimum of \$ 120, 000 times three which will be \$ 360, 000.  This will imply that the company will still have some excess amount to spend on investments. The investment in market securities will also have earned the company some interest hence its will be prudent for the company to use the money from sales of investments which in this case is the proceeds received from the sale of market securities.

Again increasing inventory to 40 per cent of the sales of next quarter’s total investment will result in an increase in the amount of inventory of \$ 693,052. The investments will therefore reduce by an amount equivalent to \$ 693,052. All these options are feasible and the company can increase the level of inventory to 30 or 40 percent without affecting any significant operations of the company. The minimum cash requirements of \$ 120, 000 per month will still be feasible and the company will still be able to invest and finance its short term borrowing.

Part C: The Cash Discount Assumption

The decision to discontinue or increase the cash discount can both have positive and negative consequences. According to Mr. Wayne there is a need for the company to discontinue the cash for prompt payment. When the cash for prompt payment is discontinued the cash payment within the moth will be increased. The increase in the cash payment for the month will increase the total budgeted cash receipts for the particular month. This is because the discount allowed will be part of the receipt since it will not be deducted from the cash sales (Freddie, 2009).  The cash sales will increase and this will reduce the amount of delayed payment from the month of billing payment to the following trading month. The opinion of Mr. Wayne is therefore correct since abolishing of cash discount will increase the amount of cash payment for the billing month. However the extent to which the amount of delayed payment will change depends on the percentage of the customers willing to make prompt payment in the absence of cash discount. The assumption that 40 percent of payments on discount is made in the billing month may only hold true due to the incentive offered by cash discount.

Limited time Offer

0
0
days
:
0
0
hours
:
0
0
minutes
:
0
0
seconds
Get 19% OFF

On the other hand Mr. Chester argument that discount should be increased by 3 percent will reduce the cash receipts within the billing month. This is because the increase of the cash discount will reduce the cash payment of discount sales. This will reduce the amount of cash paid in the billing month. The reduction of the amount of cash payment in the billing month will subsequently reduce the cash receipts of that particular month. The net effect of this suggestion by Mr. Chester on the cash flow will be a reduction in the available cash during that particular year.

Conclusions

The assumptions made by the company in the calculation of the cash budget for the fourth quarter are necessary in order for the company to be able to come up with the estimates of the financial performance (Colm & Wagner, 2010). The impacts that the assumptions will have will however be determined by a number of factors. Given the calculated cash budget it is important to state that the assumptions will not have significant impact on the company since there are excess amount of cash available at the end of each month. The company should therefore hold to these assumptions in the calculations for their cash budgets as they are reliable. The best recommendation for the company is to increase cash discount to three percent but not to abolish it and also increase the investments level to 30 percent of the next quarter’s investments.

#### Related Business essays

0

Preparing Orders

0

Active Writers

0

Support Agents

Notice: Undefined index: id in /home/privatee/supremeessays.com/header.php on line 3263

Notice: Undefined index: css in /home/privatee/supremeessays.com/header.php on line 3263

Notice: Undefined index: html in /home/privatee/supremeessays.com/header.php on line 3263

Notice: Undefined index: css_mobile in /home/privatee/supremeessays.com/header.php on line 3263

Notice: Undefined index: html_mobile in /home/privatee/supremeessays.com/header.php on line 3263