Learning Outcomes
- Prepare a cash budget
Once the operating budget has been prepared, sufficient information is available to prepare the cash budget and compute the balance in the Cash account for each quarter. Preparing a cash budget requires information about cash receipts and cash disbursements from all the other operating budget schedules.
Schedule of Cash Receipts
We can prepare the cash receipts schedule based on how the company expects to collect on sales. We know, from past experience, how much of our sales are cash sales and how much are credit sales. We also can analyze past accounts receivable to determine when credit sales are typically paid.
GelSoft makes all sales on credit, so they do not have any cash sales. For the credit sales, experience shows they collect 60% of sales in the quarter of the sale and the remaining 40% is collected the quarter after the sale. Although in practice, actual collections will be less than 100%, for purposes of this example we’ll assume that all sales are collected. Accounts Receivable at the beginning of the year is $500,000 and is expected to be collected in the 1st Quarter. From this information, GelSoft prepares the following schedule of planned cash receipts:
| Description | Q1 | Q2 | Q3 | Q4 | Year | Q1 YR 2 |
|---|---|---|---|---|---|---|
| Budgeted Sales | $1,360,000 | $1,428,000 | $1,499,400 | $1,574,370 | $5,861,770 | |
| Accounts receivable collected | Single Line500,000 | Single Line | Single Line | Single Line | Single Line500,000 | Single Line |
| 60% of current sales collected | 816,000 | 856,800 | 899,640 | 944,622 | 3,517,062 | |
| 40% of prior quarter sales collected | 544,000 | 571,200 | 599,760 | 1,714,960 | $629,748 | |
| Cash receipts | Single Line$1,316,000Double line | Single Line$1,400,800Double line | Single Line$1,470,840Double line | Single Line$1,544,382Double line | Single Line$5,732,022Double line | Single Line |
The ending balance of Accounts Receivable is the 40% of 4th Quarter sales that will be collected in the 1st Quarter of the next year ($1574,370 * 0.40 = $629,748).
Notice that Q1 sales of $1,360,000 was collected as follows:
$816,000 in Q1 (60%)
$544,000 in Q2 (40%)
Here is an overview of the sales and collection budget that creates the schedule of cash receipts:
You can view the transcript for “The Cash Budget Part 1, Sales Budget and Collections Budget (Cost Accounting Tutorial #39)” here (opens in new window).
In addition to cash receipts, we also need to understand how we plan to make our cash payments or disbursements.
Schedule of Cash Disbursements
Companies need cash to pay for purchases, wages, rent, interest, income taxes, cash dividends, and most other expenses. We can obtain the amount of each cash disbursement from other budgets or schedules.
Let’s assume GelSoft makes all purchases on credit, paying 80% in the quarter of purchase and 20% in the quarter after the purchase. Accounts Payable at the beginning of the year is $300,000 and will be paid in the 1st Quarter.
We’ll accumulate all expenditures in this one table. Note that we are going to remove depreciation expense from the calculation since it is not a cash expense (depreciation is the allocation of the cost of fixed assets that have been purchased outside of the operating budget—covered in the capital expenditure budget module).
| Description | Q1 | Q2 | Q3 | Q4 | Year | Q1 YR 2 |
|---|---|---|---|---|---|---|
| Budgeted raw materials purchases | $98,560 | $297,220 | $308,528 | $330,253 | $1,034,561 | |
| Budgeted direct labor costs | 370,000 | 390,000 | 411,000 | 415,040 | $1,586,040 | |
| Budgeted manufacturing overhead | 185,000 | 195,000 | 205,500 | 207,520 | $793,020 | |
| Remove depreciation (non-cash expense) | (50,000) | (50,000) | (50,000) | (50,000) | (200,000) | |
| Budgeted selling, general, and administrative costs | 462,500 | 462,500 | 462,500 | 462,500 | $1,850,000 | |
| Remove depreciation (non-cash expense) | (25,000) | (25,000) | (25,000) | (25,000) | (100,000) | |
| Total budgeted cash-related costs | Single Line1,041,060 | Single Line1,269,720 | Single Line1,312,528 | Single Line1,340,313 | Single Line4,963,621 | |
| Accounts payable paid | 300,000 | 300,000 | ||||
| 80 % costs paid in current quarter | 832,848 | 1,015,776 | 1,050,022 | 1,072,250 | 3,970,897 | |
| 20% of costs paid in following quarter | 208,212 | 253,944 | 262,506 | 724,662 | 268,063 | |
| Cash disbursements | Single Line$1,132,848Double line | Single Line$1,223,988Double line | Single Line$1,303,966Double line | Single Line$1,334,756Double line | Single Line$4,995,558Double line | Single Line |
Notice that Q1 expenditures of $1,041,060 were paid out as follows:
$832,848 in Q1 (80%)
$208,212 in Q2 (20%)
Different categories of expenses may warrant separate cash disbursement schedules that would be rolled up into one final number, but for GelSoft, we’ll just use this single set of assumptions.
The ending balance of Accounts Payable is 20% of the 4th Quarter costs ($1,415,313 * 0.20 = $286,063).
There will be other cash outlays, such as fixed asset acquisitions, dividends and other payments to owners, and income taxes.
We’ll assume income taxes are projected to be $51,105 and will be paid in the first quarter of the following year, and that income taxes payable (from the prior year) were $20,000. We’ll assume there are no scheduled asset acquisitions and no scheduled distributions to the owners.
The complete schedule of cash payments would look like this:
| Description | Total |
|---|---|
| Beginning cash | $250,000 |
| Cash receipts | 5,732,022 |
| Cash disbursements | (4,995,558) |
| Prior year income taxes | (20,000) |
| Capital acquisitions (assets) | – |
| Distributions to owners | – |
| Ending cash balance | Single Line$966,464Double line |
We could also present this budget on a quarterly basis:
| Description | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| Beginning cash | $250,000 | $413,152 | $589,964 | $756,838 |
| Cash Receipts | 1,316,000 | 1,400,800 | 1,470,840 | 1,544,382 |
| Cash Disbursements | (1,132,848) | (1,223,988) | (1,303,966) | (1,334,756) |
| Prior year income taxes | (20,000) | – | – | – |
| Capital acquisitions (assets) | – | – | – | – |
| Distributions to owners | – | – | – | – |
| Ending cash balance | Single Line$413,152Double line | Single Line$589,964Double line | Single Line$756,838Double line | Single Line$966,464Double line |
The cash budget helps management to decide whether enough cash will be available for short-term needs. If a company’s cash budget indicates a cash shortage at a certain date, the company may need to borrow money on a short-term basis. If the company’s cash budget indicates a cash excess, the company may wish to invest the extra funds for short periods to earn interest rather than leave the cash idle. Knowing in advance that a possible cash shortage or excess may occur allows management sufficient time to plan for such occurrences and avoid a cash crisis. For instance, if GelSoft had a $600,000 debt payment due on June 30, they could plan for that and better arrange cash flows by either accelerating collections, delaying payments, or executing short-term borrowing, since there is projected to be only $589,964 in cash on June 30 (assuming the company is budgeting and reporting using a calendar year).
Here is another look at the cash budgeting process:
You can view the transcript for “The Cash Budget” here (opens in new window).
Now, check your understanding of cash budgeting.
