The Cash Budget

The firm estimates its needs for cash as a part of its general budgeting, or forecasting, process. First, it forecasts sales, its fixed asset and inventory requirements, and the times when payments must be made. This information is combined with projections about when accounts receivable will be collected, tax payment dates, dividend and interest payment dates, and so on. All of this information is summarized in the cash budget, which shows the firm’s projected cash inflows and outflows over some specified period. Generally, firms use a monthly cash budget forecasted over the next year, plus a more detailed daily or weekly cash budget for the coming month. The monthly cash budgets are used for planning purposes, and the daily or weekly budgets for actual cash control.

The cash budget provides more detailed information concerning a firm’s future cash flows than do the forecasted financial statements. We developed Allied Food Products 2012 forecasted financial statements. Allied projected 2012 sales were $3,300 million, resulting in a net cash flow from operations of $162 million. When all expenditures and financing flows are considered, Allied cash account is projected to increase by $1 million in 2012. Does this mean that Allied will not have to worry about cash shortages during 2012? To answer this question, we must construct Allied cash budget for 2012.

To simplify the example, we will only consider Allied cash budget for the last half of 2012. Further, we will not list every cash flow but rather focus on the operating cash flows. Allied sales peak is in September, shortly after the majority of its raw food inputs have been harvested. All sales are made on terms of 2/10, net 40, meaning that a 2 percent discount is allowed if payment is made within 10 days, and if the discount is not taken, the full amount is due in 40 days. However, like most companies, Allied finds that some of its customers delay payment up to 90 days. Experience has shown that payment on 20 percent of Allied dollar sales is made during the month in which the sale is made – these are the discount sales. On 70 percent of sales, payment is made during the month immediately following the month of sale, and on 10 percent of sales payment is made in the second month following the month of sale.

The costs to Allied of foodstuffs, spices, preservatives, and packaging materials average 70 percent of the sales prices of the finished products. These purchases are generally made one month before the firm expects to sell the finished products, but Allied purchase terms with its suppliers allow it to delay payments for 30 days. Accordingly, if July sales are forecasted at $300 million, then purchases during June will amount to $210 million, and this amount will actually be paid in July.

Such other cash expenditures as wages and rent are also built into the cash budget, and Allied must make estimated tax payments of $30 million on September 15 and $20 million on December 15. Also, a $100 million payment for a new plant must be made in October. Assuming that Allied target cash balance is $10 million, and that it projects $15 million to be on hand on July 1, 2012, what will its monthly cash surpluses or short fails be for the period from July to December?