Question

Mr. Eli Lilly is very excited because sales for his nursery and Plant Company are expected to double from $600,000 to $1,200,000 next year. Eli notes that net assets (assets - liabilities) will remain at 50 percent of sales. His firm will enjoy an 8 percent return on total sales. He will start the year with $120,000 in the bank and is bragging about the Jaguar and luxury townhouse he will buy. Does his optimistic outlook for his cash position appear to be correct? Compute his likely cash balance or deficit for the end of the year. Start with beginning cash and subtract the asset buildup (equal to 50 percent of the sales increase) and add in profit.

Answer 1

Answer:

The correct answer is Cash deficit = ($804,000) and incorrect.

Explanation:

According to the scenario, the calculation can be done as follows:

Cash Flow Statement

Beginning cash   =                                                    $1,200,000  

Now we less the asset buildup, then

Less: Assets buildup (1200000-600000)*50%  =  -$300,000

Now by adding the profit, then

Add: Profit (1200000*8%) =                                     $96,000

Cash deficit =                                                          ($804,000)

As his earning seems unable to cover additional capital expenditure, his optimistic outlook for his cash position appear to be incorrect.