Cash flow forecasts and projected financial statements
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Week 3 Individual Case Study Assignment 1
Cash flow forecasts and projected financial statements
For the following Individual Case Study, you assume the role of someone who has been asked to provide a Business Report for a group of friends who have invested in an organisation, Fashion Clothing. They had heard you are taking an Accounting and Finance Module and have asked for your advice.
The scenario
A group of friends have formed a new business called Fashion Clothing, an online and mail-order clothing business, in which they have invested £200,000 of their own capital. They intend to manufacture and sell quality clothes. They have set up the business and are selling direct to the final consumer, using a combination of aggressive marketing across a range of different media and also with the use of an automated Web site that accepts online orders. To support this, they also have a department of telephone sales and support staff ready to help customers. The sales staff work in teams and receive a basic salary plus commission for each successful sale. By the start of July 20X5, they have spent £150,000 on tangible non-current assets, and they currently have the remaining £50,000 in their business bank account.
They provide you with the following forecasted figures for their first 6 months of trading:
| £ | |
| Sales for the next 6 months | 1,350,000 |
| Cost of the materials used up in sales | 390,000 |
| Labour costs for the 6 months | 480,000 |
| Other expenses for the 6 months, including marketing costs and £15,000 depreciation of tangible non-current assets | 345,000 |
| Materials purchased during the 6 months | 520,000 |
Their projected cash receipts and payments are estimated to be as follows:
| Month (20X5) | Sales Receipts | Payments for Materials | Labour and Other Expenses |
| £ | £ | £ | |
| July | 150,000 | 120,000 | These payments are divided equally over each of the 6 months. |
| August | 120,000 | 100,000 | |
| September | 150,000 | 60,000 | |
| October | 210,000 | 60,000 | |
| November | 260,000 | 60,000 | |
| December | 285,000 | 60,000 | |
| Totals | 1,175,000 | 460,000 |
In addition to the above, they expect to have to pay a tax bill of £20,000 in December 20X5 and also plan to buy (and pay for) £30,000 additional tangible non-current assets in that same month. All transactions will go through their business bank account.
Required
You are asked to provide a Business Report (1,000 words for the main body of the report) for the friends who have invested in Fashion Clothing, commenting on the business’ prospects and including the following five financial statements:
Since none of the investors have a background in accounting and finance, you should also explain what each of these statements means as a part of your report.
- An opening statement of financial position at the start of July 20X5.
- A monthly cash flow forecast, showing the bank balance at the end of each of the 6 months and indicating what level of overdraft facilities the friends need to negotiate with their bank manager. Explain what additional expense they should take into account as a result of needing this financial assistance (overdraft).
- A projected income statement for the first 6 months of trading.
- A projected statement of financial position for Fashion Clothing at the end of its first 6 months of operations.
- A projected statement of cash flows for the first 6 months of trading and using the indirect method.
Keep the following in mind:
- Using a spreadsheet may help you to produce your cash flow forecast. Remember here that £150,000 of the initial £200,000 has already been spent. Hence, your opening bank balance should be £50,000. Your closing bank balance should be included in your statement of financial position as at 31.12.20X5.
- Think carefully about the £15,000 depreciation charge when working out your monthly cash outflows for labour and other expenses.
- Also think carefully about the figures for closing stocks (inventories), creditors (payables) and debtors (receivables).
- Please remember that your qualitative analysis and explanation of your five statements are just as important as the calculations themselves. These, together with your presentation of a professional report, will contribute towards your grade for this assignment.
- Please be sure to re-visit the Key Concept Overviews for Weeks 1 and 2, as well as Week 3. These should serve as a reminder of the accruals concept, plus the difference between a cash flow forecast and a statement of cash flows. They also include detailed numerical examples that should assist with your calculations for your financial statements.
Ideally a business report should be produced with a suitable structure and quality of discussion around the following key areas:
Executive summary
Table of contents
List of figures
- Introduction
- Main financial findings.
2.1 Summary of the first 6 months business operations
2.2 Financial accounting statements
- Analysis
3.1 Initial analysis in context of the three financial statements.
3.2 Investigations to increase efficiency
- Conclusion
- References
ANNEX I: Statement of financial position Fashion Clothing – 01.07.20X5 and 31.12.20X5
ANNEX II: Income statement Fashion Clothing – 6 months to 31.12.20X5
ANNEX III: Statement of cash flows Fashion Clothing – 6 months to 31.12.20X5
ANNEX IV: Projected cash flow forecast for the first 6 months of trading
To complete the assignment:
- By Day 7, submit your Individual Assignment to the Turnitin link provided.
- Be sure to read over your Individual Assignment before submitting it to your Instructor. Make sure the spelling and grammar are correct and the language, citing and referencing you use when providing your opinion are appropriate for academic writing.
SAMPLE ANSWER
Executive Summary
Fashion clothing targets to sell trendy fashion clothing to clients who prefer to buy expensive garments at a price slightly above the average market price. With an initial capital of $200,000, the company has its goal on an average daily turnover of the same amount. The business in fashion clothing industry requires heavy investment in stock as most customers have different sizes and preferences and they require a large variety made up of different sizes and designs.
The objective of Fashion clothing is sell unique products that are appealing to clients and which have been designed with utmost accuracy and according to the clients exact details. The apparels are meant to be custom made per the client’s requests.
The mission of the company is to allow many potential clients to place orders that that they are assured of good quality and timely delivery.
Fashion clothing is a company that intends to take advantage of the delays in deliveries of orders that is common in the apparel industry. The company plans to sell most of its custom made designer clothes through the internet hence its strategy is to stock a few items for display only while the materials for the major orders that have been placed by customers can be obtained directly from the supplier’s shops and delivered to the business premises directly before they are manufactured according to the sizes and designs requested by the clients.
The main component of the internet based sales is timely delivery of the finished product to the client. The company must has already strategized to have an efficient delivery system to maintain its potential clients.
Contents Pages
- Introduction………………………………………………………………………………4
- Main financial findings………………………………………………………………..4
2.1 Summary of the first 6 months business operations…………………………..5
2.2 Financial accounting statements………………………………………………6
- Analysis
3.1 Initial analysis in context of the three financial statements…………………..6
3.2 Investigations to increase efficiency………………………………………….7
- Conclusion………………………………………………………………………………7
- References………………………………………………………………………………8
- Appendices………………………………………………………………………………9
List of Figures
ANNEX I: Statement of financial position Fashion clothing – 01.07.20X5 and 31.12.20X5…9
ANNEX II: Income statement Fashion Clothing – 6 months to 31.12.20X5
ANNEX III: Statement of cash flows Fashion Clothing – 6 months to 31.12.20 X5
ANNEX IV: Projected cash flow forecast for the first six months of trading
1. Introduction
Fashion Clothing is a new company in the market. Its initial investment amounts to $200,000 and
75% has already been invested in the business while the balance is in the bank.
The company has forecasted its initial sales for the first six months of trading and it hopes to breakeven in the third and final quarter of 20X5.
The major products that the company intends to manufacture are fashionable and trendy dresses for women and gentlemen suits for men. Shirts and ties for men will be introduced after the first phase of the projection.
Ladies designs seem to be more prevalent in the market than men’s original suits and ties. Fashion Clothing intends to provide a wide array of Ladies clothing for display together with matching huts, belts and shoes which will be obtained from the market to enhance the sale of matching items.
For children, fashion clothing intends to have a retail section that has been franchised from other larger apparel manufacturers to boost its sales for the first two years of trading. This strategy would make it possible for the company to decide if it’s profitable enough to introduce their own manufacturing line for children clothing.
- Main financial findings
The projected cash flow statement indicates that the company will incur losses throughout its trading periods in the next six months
2.1 Summary of the first 6 months business operations
| Jul | Aug | Sep | Oct | Nov | Dec | |
| Sales | £ 150,000.0 | £ 120,000.0 | £ 150,000.0 | £ 210,000.0 | £ 260,000.0 | £ 285,000.0 |
| Total expenses | £ 276,667.0 | £ 276,667.0 | £ 276,667.0 | £ 276,667.0 | £ 279,666.0 | £ 341,666.0 |
| Loss | -£ 126,667.0 | -£ 156,667.0 | -£ 126,667.0 | -£ 66,667.0 | -£ 19,666.0 | -£ 56,666.0 |
| Balance C/fwd | -£ 76,667.0 | -£ 233,334.0 | -£ 360,001.0 | -£ 426,668.0 | -£ 446,334.0 | -£ 503,000.0 |
For the first six months the company will register losses as the sales are not enough to honor all the financial obligations and commitments that the company has entered into, in July for instance the total sales would amount to £150,000 while the total expenses would amount to £276,667 pounds. In august, the sales would amount to £120,000 while the total expenses would be the same as in the month of July hence a loss of £126,667 and £156,667 would be incurred for July and August respectively. The cash at bank that was brought forward would subsidize the loss in July to £76,667 but the remaining loss would be carried over to August which will result in a total loss of £233,334. The trend is the same till December where the grand loss would amount to £503,000. The total sales for the whole period would amount to£1,175,000 while the total expenses for the same period would be £1,728,000. The difference is a loss of 553,000 while the balance at the bank reduces the loss to £503,000 (Hermanson, Edwards & Invacevich, 2011, p.70).
2.2 Financial accounting statements
The income statement registered a loss of £523,000. The assets are like cash at bank and the assets acquired during the financial year are not entered in this account. However, the depreciation charged on the asset is entered in this account. A provision for depreciation is normally created to ensure that the asset is replaced when it wears out but in this case it has not been provided for. The tax incurred for the period has also been paid (Garrison, Noreen & Brewer, 2009, pg. 68)
The balance sheet indicates that the total equity is £323,000 while the current liabilities have amounted to £664,000 while the current liabilities are £503,000. The debtors could also be responsible for the problems that Fashion Clothing may be facing but s not mention in any part of the projections. The cash flow also indicates that the net cash flow from investing and financing activities amounted to £592,000.
- Analysis
3.1 Initial analysis in context of the three financial statements
The three statements indicate that the projected financial results would mean that the company is incapable of meeting its financial obligations and it’s insolvent. The sales revenues are not enough to meet the primary obligations or expenses and it has to rely on bank overdraft or another source of income to finance its activities. The total amount paid as expenses exceeds the amounts earned as sales. The extra amount spent must have been received most likely from the bank or from creditors. But it’s not clear as the projected figures don’t include any creditors or may be debtors who are yet to pay for the gods received. The liquidity ratios for the company are also very discouraging. The current ratio for 20X5 for Fashion Clothing is 1.3. The current assets can only repay the total assets 1.3 times only instead of the ideal standards of for current ratios is supposed to be 2. That’s for every current liability the current assets should be able to cover it twice. The quick ratio or the acid test ratio fashion clothing is not even applicable as the current assets are made up of stocks only. To calculate the quick ratio the inventory is subtracted from the current assets and divided by the current liabilities. Hence Fashion Clothing liquidity status is zero. It’s bankrupt unless its directors look for a way to bail it out. The company needs long term financing in order for its liquidity to improve (Williams, Haka, Bettner & Carcello, 2008, p.40).
3.2 Investigations to increase efficiency
The sales department must be able to strategize on the best strategy to improve its sales. The company must increase its efficiency in production and maybe reduce its prices to boost sales. The liquidity ratios are not favorable and it should focus on obtaining long term debts to finance its operations.
- Conclusion
To conclude, the directors of the company must work out a way to increase sales and marketing activities to boost its revenues. In the meantime, the directors should also look for ways of financing the company’s operations before it stabilizes. The company has a good strategy of using the internet to get clients on the market and it can be successful as the market is large and it’s yet to be exploited fully.
References
Garrison, H., Noreen, E., Brewer, C., (2009) Managerial Accounting, McGraw-Hill Irwin, pg 68 -75.
Hermanson, R.H., Edwards, J.D., & Invacevich, S.D. (2011) Accounting Principles: A Business Perspective. First Global Text Edition, Volume 2 Managerial Accounting, 37-73.
Williams, J. R., Haka, S.F., Bettner, M.S. & Carcello, J.V. (2008). Financial & Managerial Accounting, McGraw-Hill Irwin, p. 40.
Appendices
ANNEXTURES
ANNEX I: Statement of financial position Fashion clothing – 01.07.20X5 and 31.12.20X5
01.07.20X5
Fashion Clothing
Statement of Financial Position as at 01.07.20X5
| DR | CR | |
| Bank | 50,000 | |
| Assets | 150,000 | |
| capital | 200000 |
Fashion Clothing
Statement of Financial Position as at 31.12.20X5
| Cost | Dep | NBV | ||
| Non-current assets | 180,000 | 18,000 | 162,000 | |
| Current assets | ||||
| Inventory | 664000 | |||
| 664000 | ||||
| Total Assets | 826,000 | |||
| Current liabilities | ||||
| Bank o/d | 503000 | |||
| 503,000 | ||||
| Net Assets | 323,000 | |||
| Share holders equity | 200,000 | |||
| Retained loss | 523,000 | |||
| Total equity | 323,000 |
ANNEX II: Income statement Fashion Clothing – 6 months to 31.12.20X5
Fashion Clothing
Income Statement for the year ending 31.12.20X5
| Sales | 1,175,000 |
| Cost of sales mate | 390,000 |
| GP | 785,000 |
| Less Exp | |
| Labor | 480,000 |
| Other expenses | 330,000 |
| Depreciation | 18,000 |
| Material purchases | 460,000 |
| Total Exp | 1,288,000 |
| EBIT | -503,000 |
| Tax payment | 20,000 |
| Total loss | -523,000 |
ANNEX III: Statement of cash flows Fashion Clothing – 6 months to 31.12.20 X5
Fashion Clothing
Income Statement for the year ending 31.12.20X5
| Cash generated from operations | -523,000 | |||
| Add depreciation | 18,000 | |||
| Increase in stock | 664000 | |||
| Cash generated from operations | 159,000 | |||
| Less tax paid | 20,000 | |||
| 139,000 | ||||
| Add bank overdraft | 503000 | |||
| Net cash from operations | 642,000 | |||
| Net Financing and investments | 592,000 | |||
| Net cash flow | 50,000 |
ANNEX IV: Projected cash flow forecast for the first six months of trading
Fashion Clothing
Projected cash flow forecast for the first six months of trading
| Jul | Aug | Sep | Oct | Nov | Dec | |
| Balance B/fwd | £ 50,000.0 | -£ 76,667.0 | -£ 233,334.0 | -£ 360,001.0 | -£ 426,668.0 | -£ 446,334.0 |
| Sales | £ 150,000.0 | £ 120,000.0 | £ 150,000.0 | £ 210,000.0 | £ 260,000.0 | £ 285,000.0 |
| Cost of sales mate | £ 65,000.0 | £ 65,000.0 | £ 65,000.0 | £ 65,000.0 | £ 65,000.0 | £ 65,000.0 |
| Labor | £ 80,000.0 | £ 80,000.0 | £ 80,000.0 | £ 80,000.0 | £ 80,000.0 | £ 80,000.0 |
| Other expenses | £ 55,000.0 | £ 55,000.0 | £ 55,000.0 | £ 55,000.0 | £ 55,000.0 | £ 55,000.0 |
| Depreciation | £ – | £ – | £ – | £ 3,000.0 | £ 15,000.0 | |
| Material purchases | £ 76,667.0 | £ 76,667.0 | £ 76,667.0 | £ 76,667.0 | £ 76,666.0 | £ 76,666.0 |
| Non Current asset | £ – | £ – | £ – | £ – | £ – | £ 30,000.0 |
| Tax payment | £ – | £ – | £ – | £ – | £ – | £ 20,000.0 |
| Total expenses | £ 276,667.0 | £ 276,667.0 | £ 276,667.0 | £ 276,667.0 | £ 279,666.0 | £ 341,666.0 |
| Profit | -£ 126,667.0 | -£ 156,667.0 | -£ 126,667.0 | -£ 66,667.0 | -£ 19,666.0 | -£ 56,666.0 |
| Balance C/fwd | -£ 76,667.0 | -£ 233,334.0 | -£ 360,001.0 | -£ 426,668.0 | -£ 446,334.0 | -£ 503,000.0 |
References
Flynn, D., 2003, Understanding finance and accounting (rev. 2nd Ed). Durban: Butterworths.
Gitman, L.J., 2000, Principles of managerial finance (9th ed.). Menlo Park, Calif.: Addison Wesley.
Harrison, W.T. & Hongren, C.T., 2001, Financial accounting (4th Ed). Englewood Cliffs, NJ: Prentice Hall.
Vance, D., 2003, Financial analysis and decision making: tools and techniques to solve
financial problems and make effective business decisions. New York: McGraw-Hill.
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