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Sweet Beginnings Co. Case Study

Sweet Beginnings Co. is currently the most talked about clothing shop in town. Not only was the shop filled with customers every day, but they
have been a major supplier of clothing to other shops. Ms. Muff, the owner of the shop has remained confident that the operations will go
smoothly until one early morning when there had been problems with the delivery that was supposed to leave the shop. The clothes which
were scheduled to be delivered were already packed and waiting on the loading bay. It was past 30 minutes of the scheduled delivery and no
delivery truck was in sight. Ms. Muff decided to call the delivery contractor to find out what was taking the trucks so long.

“You’ve been one month late from your scheduled payment for our delivery service,” the frustrated delivery contractor said. “We’ve been
sending you notices every day for the past week and your company doesn’t seem to be responding. Unless you will be able to pay the amount
due by this morning, we will not send any truck to deliver your goods.

Ms. Muff was astounded to hear of the unpaid fee. To clear up the mishap, Ms. Muff hurriedly approached the company’s accountant, Mr.
Phil in hopes of drawing cash from the company. Mr. Phil regrettably reported that the company does not have cash to pay the delivery
contractor. In fact, the company has been consistently borrowing short term funds for three months from the start of the year. The company
has yet to pay any of these borrowings and Mr. Phil informed Ms. Muff that the short term lenders have been reluctant to lend money at this
point.

As a result, the shipments will not be delivered to the customers until the company figures out how to pay their delinquency with the delivery
contractors. The outside customers have been understanding enough to acknowledge that there will be a delay on the deliveries for this day.

However, too much delay may frustrate these customers and may cause bad reputation to the company. Ms. Muff is looking into taking a loan
from Fresh Rural Bank to pay for the delinquent fees. The bank manager of Fresh Rural Bank has requested a meeting with Ms. Muff to discuss
the financial condition of Sweet Beginnings Co. and plans for restoring its liquidity.

Outraged, Ms. Muff told Mr. Phil, “Why don’t we have any balance in our cash account? Our company has been very profitable but we seem
to be depending on loans to finance our operations. We need to figure out what is going wrong. Otherwise, we may lose our customers.”

Company Background

Sweet Beginnings Co. was founded in 20X0 as a manufacturer of summer clothes. The first shop was located near a calm beach with sky blue
waters and powdery sands. Families and tourist would usually flock to the beach on summer weekends which gave the clothing shop foot
traffic and gained the market’s attention. Due to its high quality products, the clothing store became a popular stop shop for vacation goers. In
20X1, a known blogger fancied the clothing line displayed in Sweet Beginnings and published an article promoting the shop. This earned the
company nationwide publicity which led to other clothing stores offering shelf space for Sweet Beginning’s brand. In 20X3 it expanded its
garment productions due to the increasing demand of their products. To this day, the company maintained its position as a summer clothing
store since this line has brought its brand equity.

Clothing Market

The demand for clothing was characterized by a stable year-to-year growth. Unit demand increased with both population and individual
income. However, the seasonal character of the company’s product has resulted to cyclical sales.

Competition among other clothing shops in the town is unlikely to clash with the company’s sales growth. The company believes it will
maintain its average growth rate for sales for the succeeding years.

Sales Forecast

Sweet Beginnings Co. had been consistently profitable. Moreover, sales had grown at an annual rate of 18 percent in 20X5. Gross sales were
projected to grow at 20% of the sales of the same months on the first quarter, 30% of sales of the same months on the second quarter and
25% of sales of the same months on the third and 4th quarter. This growth rate is expected to be constant until 20X8.

Financial Information

To prepare a forecast on a business-as-usual basis, Ms. Muff and Mr. Phil agreed on various parameters. Cost of goods sold would run at
73.7% of gross sales—a figure that was up from recent years because of increasing price competition. Operating expenses would be about 6%
of sales —also up from recent years to include the addition of a quality-control department and two new sales agents. Depreciation is at 10%
of cost of property, plant and equipment (PPE). Additions during 20X6 is expected to amount to PHP1,200,000 which will be paid on January
20X7. The Company’s policy is to expense full year’s depreciation on the date of purchase. The Company expects inventory level for 20X6 to be
the same as 20X5.

The company’s income tax rate was 30% paid for each quarter in May, August, November, and April of the following year, respectively. The
company opts to use optional standard deduction of 40% from the company’s gross profit to arrive at the taxable income for the quarter.

The delivery contractor’s fee (at 3% of sales) was collected at the loading gate as trucks left to make deliveries to customers. Ms. Muff
proposed to pay dividends of PHP450,000 per quarter. For years Sweet Beginnings had paid high dividends.

Mr. Phil observed that sales collections in any given month had been running steadily at the rate of 40% of the last month’s sales plus 60% of
the sales from the month before last. The value of raw materials paid in any month represented on average 55% of the value of sales expected
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to be made two months later. Wages and other expenses in a given month were equivalent to about 34% of purchases in the previous month.
As a matter of policy, Ms. Muff wanted to see a cash balance of no less than PHP640,000.

Sweet Beginnings Co. had a line of credit from Fresh Rural Bank, where it also maintained its cash balances. Fresh Rural Bank’s short-term
interest rate was currently 16%. Return on investment for short term investments is at 12%.

Historical Information

Problem

Ms. Muff needs to prove that the company will be liquid enough to pay for its loans with Fresh Rural Bank so that it will be allowed to ask for
another loan to meet the delivery contactor’s fee. How should Ms. Muff explain to First Rural Bank that the company is in a good financial
position? Moreover, should the company prove to have financial liquidity problems, what can to company do to cope with their need for
cash?

Learner’s Guide

1. Assume that you are Ms. Muff and you will be presenting to the Fresh Rural Bank. Convince the bank that you are in a good financial
position evidenced by your cash budget and projected financial statements.
2. Prepare a monthly cash budget for Sweet Beginnings Co. for the year ending December 20X6. Start with the monthly sales forecast
(Tip: Forecast sales up to Feb 20X7).
3. The following table format may be used for the cash budget:
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4. Forecast Financial Statements. Start with income statement.

Gross Sales Total of monthly forecasted sales

Cost of goods 73.7% of Sales
Gross profit
Delivery Fees 3% of sales
Operating expenses 6% of sales
Depreciation 10% of Total PPE cost
Interest expense Total of Interest from borrowings and return of investment from cash budget
Pretax profit
Income tax Gross profit x (1-40%) x 30%
Net profit

5. Forecast Financial Statements (Balance Sheet)

Cash Required cash balance

Accounts receivable Accounts receivable beginning + Sales - Collections from Customers
Inventories Same as last year
Short term investments Resulting balance from cash budget
Total current assets
Gross plant, property and Equipment Beginning balance + current year additions
Accumulated depreciation Beginning balance + depreciation expense
Net PPE
Total Assets

Accounts payable 20X5 + Purchases* + Operating Expense - Cash payment for raw materials - Cash
Accounts payable Payment for Salaries and Wages
*Purchases = Cost of goods sold + Inventory 20X6 – Inventory 20X5
Short term borrowings Resulting balance from cash budget
Payable to PPE supplier Additions to PPE payable on January 20X7
Accrued taxes Tax payable for the last quarter
Total current liabilities
Owners’ equity Owners’ Equity 20X5 + Net Income - Dividends paid
Total liabilities and equity

Format of Paper/Presentation

Prepare a paper containing the following:

1. Letter to Fresh Rural Bank explaining that the company is in a healthy financial position and has capacity to pay loans when they come due.

2. Cash Budget for 20X6 in good form.

3. Projected Financial Statements for 20X6 in good form.

4. Supporting computations.