Problem 2. Mae Lee owns a small retail store in Cairo, Georgia. The following su

Question

Problem 2. Mae Lee owns a small retail store in Cairo, Georgia. The following summary information regarding expectations for the month of January is provided: As of December 31 there is $500 in the bank and the balance in accounts receivable is $2,500. Budgeted cash and credit sales for January are $3,000 and $2,000, respectively. Ninety percent of credit sales are collected in the month of sale and the remainder is collected in the following month. Mae's suppliers do not extend credit. Cash payments for January are expected to be $12,000. Mae has a line of credit that enables the store to borrow funds on demand. However, funds must be borrowed on the first day of the month and interest paid in cash on the last day of the month. Mae desires to maintain a $500 cash balance before consideration is given to the payment of interest. Mae's bank charges annual interest of 12% per year.

Required:

1) Compute the amount of funds that needs to be borrowed.
2) Compute the amount of interest expense that will appear on the January 31 pro forma income statement.

Explanation / Answer

a Beginning Cash balance $   500 Cash Collections    Collections from December’s receivables balance $2,500    Collections from January’s credit sales ($2,000 x .90)    1,800    Cash sales from January    3,000 $7,300         Total cash available $7,800 Desired cash balance       500 Cash disbursements 12,000 Total cash needs 12,500 Cash shortage (amount needed to be borrowed) $4,700 b The interest expense for January is $0 because the loan is taken at the end of January.

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