Assignment of Corporate Finance

Q1. Discuss the utility of cash budget as a tool of cash management. What are the steps involved in the construction of cash budget. Give an example. Ans. Utility of Cash Budget as a Tool: It gives a complete picture of all the items of expected cash flows so that firm is enabled to arrange finances. It is a sound toll of managing daily cash operations. It helps to utilize ideal funds in better ways. On basis of Cash budget, firm can decide the surplus cash in marketable securities. Steps of construction of Cash Budget: Receipt and Payment method 1. Begins with the opening balance of cash in hand and at bank. 2. In OB cash receipts from various sources will be added. 3. All payments of cash whether on capital or revenue account, will be deducted. Example: A company is expecting to have Rs. 25,000 cash in hand on 1st apr10 and it requires you to prepare cash budget for three months, April to June 2010. The following information is supplied to you. February March April May June
Other information:

Sales 70,000 80,000 92,000 1,00,000 1,20,000

Purchases 40,000 50,000 52,000 60,000 55,000

Wages 8,000 8,000 9,000 10,000 12,000

Expenses 6,000 7,000 7,000 8,000 9,000

a) Period of credit allowed by suppliers is two months; b) 25% of sale is for cash and the period of credit allowed to customers for credit sale is one month; c) Delay in payment of wages and expenses one month;

d) Income tax Rs. 25,000 is to be paid in June 2010. Solution: April(Rs.) Opening balance Receipts: Cash sales Debtors Total Payments: Creditors Wages Expense Income tax Total Closing balance 25000 May(Rs.) 53000 June(Rs.) 81000 Total 25000

23000 60000 83000 40000 8000 7000 55000 53000

25000 69000 94000 50000 9000 7000 66000 81000

30000 75000 105000 52000 10000 8000 25000 95000 91000

78000 204000 282000 142000 27000 22000 25000 216000 91000

Q2. What is meant by credit terms ?What are the expected effects of a) decrease in cash discount b) decrease in credit period. Ans. Credit Terms: The stipulations under which the firm sells on credit to customers are called credit terms. These stipulations include: a) the credit period, and b) the cash discount. a) Effects of decrease in cash discount: A firm uses cash discount as a tool to increase sales and accelerate collections from customers. Thus, the level of receivables and associated costs may be reduced. But if a firm decreases the

cash discount then 1) sales would decrease and 2) collection period would increase because it acts as an attraction to customer. b) Effects of decrease in credit period: a firm lengthens credit period to increase its operating profit through expanded sales. With increased sales and extended credit period, investment in receivables would increase. But firm decreases the credit period then 1) operating profit would affected negatively and 2) investment in receivables would decreases. There would be fewer customers. Q3. Length of the operating cycle is the major determinant of working capital. Explain. Ans. Operating cycle is the time duration required to convert sales after the conversion of resources into inventories into cash. It inverse three phases: 1) acquisition of resource, 2) manufacture of product and 3) sale of product. If the length of the operating cycle is more, the will need more working capital whereas if the length is short, the company will need less working capital because in short operating cycle funds are generated automatically through sales of product.