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Chapter 8 Budget Exercise Earrings Unlimited: You have just been hired as a new management trainee by Earrings Unlimited, a distributor of earrings to various

Chapter 8 Budget Exercise Earrings Unlimited:
You have just been hired as a new management trainee by Earrings Unlimited, a distributor of earrings to
various retail outlets located in shopping malls across the country. In the past, the company has done very
little in the way of budgeting and at certain times of the year has experienced a shortage of cash. Since you
are well trained in budgeting as are result of your Managerial Accounting class at Pima College, you have
decided to prepare a master budget for the upcoming second quarter. To this end, you have worked with
accounting and other areas to gather the information assembled below.
The company sells many styles of earrings, but all are sold for the same price$10 per pair. Actual sales of
earrings for the last three months and budgeted sales for the next six months follow (in pairs of earrings):
January (actual)20,000 June (budget)50,000
February (actual)26,000 July (budget)30,000
March (actual)40,000 August (budget)28,000
April (budget)65,000 September (budget)25,000
May (budget)100,000
The concentration of sales before and during May is due to Mothers Day. Sufficient inventory should be on
hand at the end of each month to supply 40% of the earrings sold in the following month.
Suppliers are paid $4 for a pair of earrings. Onehalf of a months purchases is paid for in the month of
purchase; the other half is paid for in the following month. All sales are on credit. Only 20% of a months sales
are collected in the month of sale. An additional 70% is collected in the following month, and the remaining
10% is collected in the second month following sale. Bad debts have been negligible.
Monthly operating expenses for the company are given below:
Variable:
Sales commissions 4% of sales
Fixed:
Advertising $ 200,000
Rent $ 18,000
Salaries $ 106,000
Utilities $ 7,000
Insurance $ 3,000
Depreciation $ 14,000
Insurance is paid on an annual basis, in November of each year.
Capital Expenditures:
The company plans to purchase $16,000 in new equipment during May and $40,000 in new equipment
during June; both purchases will be for cash. The company declares dividends of $15,000 each quarter,
payable in the first month of the following quarter.
Chapter 8 Budget Exercise Earrings Unlimited page 2 of 2
The companys balance sheet as of March 31 is given below:
Assets
Cash $ 74,000
Accounts receivable
($26,000 February sales; $320,000 March sales)346,000
Inventory 104,000
Prepaid insurance 21,000
Property and equipment (net)950,000
Total assets $ 1,495,000
Liabilities and Stockholders Equity
Accounts payable $ 100,000
Dividends payable 15,000
Common stock 800,000
Retained earnings 580,000
Total liabilities and stockholders equity $ 1,495,000
The company maintains a minimum cash balance of $50,000. All borrowing is done at the beginning of a
month; any repayments are made at the end of a month.
The company has an agreement with a bank that allows the company to borrow in increments of $1,000 at
the beginning of each month. The interest rate on these loans is 1% per month and for simplicity we will
assume that interest is not compounded. At the end of the quarter, the company would pay the bank all the
accumulated interest on the loan and as much of the loan as possible (in increments of $1,000), while still
retaining at least $50,000 in cash.
Required:
Prepare a master budget for the threemonth period ending June 30. Include the following detailed
schedules:
1. a. A sales budget, by month and in total.
b. A schedule of expected cash collections, by month and in total.
c. A merchandise purchases budget in units and in dollars. Show the budget by month and in
total.
d. A schedule of expected cash disbursements for merchandise purchases, by month and in total.
2. A cash budget. Show the budget by month and in total. Determine any borrowing that would be
needed to maintain the minimum cash balance of $50,000.
3. A budgeted income statement for the threemonth period ending June 30. Use the contribution
approach.
4. A budgeted balance sheet as of June 30.

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