The Victoria Nursery, which provides facilities for pre-school children on a commercial basis, is preparing its cash budget for next year. A profile of the estimated revenues and expenses for the first four months of the year is as follows:
Jan Feb Mar Apr
£ £ £ £
Revenues:
Fees due for payment 58,000 60,000 66,000 59,000
Costs:
Wages and salaries 11,000 11,000 12,000 12,000
Purchase of equipment 28,000 22,000
Payment of taxation 8,000
Purchases of consumables 2,000 2,500 2,200 1,400
Rent and rates 3,000 3,000
Sundry overheads 7,000 8,000 8,000 8,000
Telephone 1,200 1,400
Insurance 2,800
Building renovation 12,000 16,000 20,000 25,000
The following additional information is available:
(1) At the end of the current year, it is estimated that the nursery’s bank account will be overdrawn by £4,000.
(2) In addition to receipts from fees, the nursery will receive a loan of £5,000 from one of its owners in April, and the sale of unwanted toys and games will raise £500 in February.
(3) At the end of the current year, it is anticipated that £48,000 in unpaid fees will be outstanding: 40% of this will be received in January, 40% in February, and 18% in March, with the balance being bad debts. The pattern of fee receipts next year is expected to be 20% in the month due, 50% received in the month after they are due, 28% received two months after they are due, with the balance being bad debts.
(4) The nursery’s creditors at the end of this year are estimated at £12,000, all of which amount will be paid during January next year.
(5) Purchases of consumables and of equipment will be paid for in the month following purchase. Building renovations will be paid for 70% in the month due, and 30% in the month following.
(6) With the exception of item 5 above, all costs will be paid in the month incurred. Sundry overheads includes £1,000 per month depreciation.
REQUIRED
(a) Prepare the Victoria Nursery’s cash budget for each of the first four months of next year.
(b) In response to the cash flow position revealed by the budget in (a), one of the owners has suggested that fees should be increased by 10% from 1st January next year:
(i) Assuming that all other factors remain as stated, estimate the effect on the nursery’s cash balances in each month of the proposed fee increase.
(ii) Assess the likely effectiveness of the owner’s proposal and suggest other means by which the budgeted cash-flow position could be improved.
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To prepare the cash budget for each of the first four months of next year for Victoria Nursery, we need to calculate the cash inflows and outflows for each month. Here are the steps to follow:
Step 1: Calculate the cash inflows for each month:
- January: Start with the fees due for payment (£58,000) and add 40% of the outstanding unpaid fees (£48,000 x 40% = £19,200) to get the total cash inflow for January (£58,000 + £19,200 = £77,200).
- February: Take 50% of the outstanding unpaid fees (£48,000 x 50% = £24,000) and add it to the fees due for payment (£60,000) to get the total cash inflow for February (£24,000 + £60,000 = £84,000).
- March: Take 28% of the outstanding unpaid fees (£48,000 x 28% = £13,440) and add it to the fees due for payment (£66,000) to get the total cash inflow for March (£13,440 + £66,000 = £79,440).
- April: Take the bad debts from the outstanding unpaid fees (£48,000 - £19,200 - £24,000 - £13,440 = £3,360) and add it to the fees due for payment (£59,000) plus the loan from one of the owners (£5,000) and the sale of unwanted toys and games (£500) to get the total cash inflow for April (£3,360 + £59,000 + £5,000 + £500 = £67,860).
Step 2: Calculate the cash outflows for each month:
- January: Include all the costs for January - wages and salaries (£11,000), purchase of consumables (£2,000), rent and rates (£3,000), sundry overheads (£7,000), telephone (£1,200), and insurance (£2,800). Also, include the payment of creditors (£12,000) from the previous year. Subtract this total from the January cash inflow to get the cash outflow for January.
- February: Include all the costs for February - wages and salaries (£11,000), purchase of consumables (£2,500), sundry overheads (£8,000), telephone (£1,400), and the payment of creditors (£12,000). Subtract this total from the February cash inflow to get the cash outflow for February.
- March: Include all the costs for March - wages and salaries (£12,000), purchase of consumables (£2,200), sundry overheads (£8,000), telephone (£1,400), and the payment of creditors (£12,000). Subtract this total from the March cash inflow to get the cash outflow for March.
- April: Include all the costs for April - wages and salaries (£12,000), purchase of equipment (£28,000), purchase of consumables (£1,400), sundry overheads (£8,000), telephone (£1,400), insurance (£2,800), and building renovation (£25,000). Subtract this total from the April cash inflow to get the cash outflow for April.
Repeat steps 1 and 2 for each month to complete the cash budget.
For part (b) of the question, we need to estimate the effect of a 10% fee increase from 1st January on the nursery's cash balances in each month and assess the proposal's effectiveness.
To estimate the effect of the fee increase, you would follow the same steps as in part (a) but use the increased fees in the calculations. For example, if the fees due for payment in January were £58,000, you would increase it by 10% to get £63,800.
After completing the cash budget with the increased fees, compare the cash balances in each month to the original cash budget. Analyze if the proposed fee increase helps improve the cash flow position in each month or not.
In addition to the fee increase, you can suggest other means to improve the budgeted cash-flow position, such as:
- Increasing marketing efforts to attract more enrollments and boost revenues.
- Implementing cost-saving measures, such as reducing wastage of consumables and optimizing overhead expenses.
- Negotiating better terms with suppliers to lower costs.
- Exploring additional sources of income, like offering extra services or renting out facilities during non-operational hours.
- Establishing a debt collection policy to minimize unpaid fees.
- Considering alternative financing options, like working capital loans or investment from new owners.