Fin 1a Module 5

Republic of the Philippines
CAMIGUIN POLYTECHNIC STATE COLLEGE

Balbagon 9100, Mambajao, Camiguin
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www.cpsc.edu.ph|camiguinpolytechnic@yahoo.com
FIN 1A:
BASIC FINANCE
MODULE 5:
FINANCIAL PLANNING,
TOOLS, AND CONCEPTS
(Part 2 & 3)
PREPARED BY:
MA. ANGELIE MALATON CHAN
Faculty, Institute of Arts and Sciences
Document Title: LEARNING MODULE

Document Code: Rev. No.: 02 Effective Date: October 19, 2020 Page 1 of 22
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Learning Outcomes:
At the end of the module, the student should be able to:
1. Illustrate the formula and format for the preparation of budgets and projected
financial statement.
2. Explain tools in managing cash, receivables, and inventory.
Module Overview:
This module is part 2 and 3 of 3 sets for this topic. It will be focusing on different
topics related with Financial Planning, Tools, and Concepts such as budget preparations,
financial statement projections, and tools in managing cash, receivables and inventory.
Preliminary Activity:
Consider the following questions for discussion:
1. What are the Characters of an Effective Plan?
2. What are Sales Budget, Production Budget, and Cash Budget?
3. What is Financial Statements Projections?
4. What is Working Capital Management?
5. How to Manage Cash, Receivable, and Inventories?
Content:
I. Characteristics of an Effective Plan
In planning, the goal of maximizing shareholders’ wealth must always be put in mind.
The following criteria may be used for effective planning:
 Specific – target a specific area for improvement.
 Measurable – quantify or at least suggest an indicator of progress.
 Assignable – specify who will do it.
 Realistic – state what results can realistically be achieved, given available
resources.
 Time-related – specify when the result(s) can be achieved. (Doran, G. T.
(1981). "There's a S.M.A.R.T. way to write management's goals and
objectives". Management Review (AMA FORUM) 70 (11): 35–36.)
II. Budgeting and Financial Statement Projection

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1. Sales Budget
The most important account in the financial statement in making a forecast is sales
since most of the expenses are correlated with sales. Recall from the previous lesson -
Financial Statement analysis that cost of sales ratio, gross profit ratio, and variable operating
expenses ratio are based on the sales figure. Given the importance of the sales forecast, the
financial manager must be able to support this figure with reasonable assumptions. The
following external and internal factors should be considered in forecasting sales:
The following external and internal factors influencing sale, among others:
 Macroeconomic Variables (external) – Macroeconomic variables such as the GDP
rate, inflation rate, and interest rates, among others play an important role in
forecasting sales because it tells us how much the consumers are willing to spend. A
low GDP rate coupled by a high inflation rate means that consumers are spending
less on their purchases of goods and services. This means that we should not
forecast high sales of the periods of low GDP.
 Developments in the Industry (external) – Products and services which have more
developments in its industry would likely have a higher sales forecast than a product
or service in slow moving industry. Consumer trends are always changing, thus the
industry should be competitive to be able to appeal to more customers and stay in
the market.
 Competition (external) – Suppose you are selling bread and you know that each
person in your community eats an average of one loaf of bread a day. The population
of your community is 500 people. If you are the only person selling bread in your
town, then your sales forecast is 500 units of bread. However, you also have to take
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account your competition. What if there are 4 other sellers of bread? You will need to
have to divide the sales between the 5 of you. Does this mean your new forecast
should be 100 units of bread? Not necessary. You should also know the preference
of your consumers. If more of them would prefer to buy more bread from you, then
you should increase your sales forecast.
 Production Capacity and man power (internal) - Suppose that you have already
evaluated the macroeconomic factors and identified that there is a very strong market
for your product and consumers are very likely to buy from you. You forecasted that
you will be able to sell 1,000 units of your product. However, you only have 20
employees who are able to produce 20 units each. Your capacity cannot cover your
expected demand hence, you are limited by it. To be able to increase capacity, you
should be able to expand your operations.
If the sales budget is understated, there can be lost opportunities in the form of
forgone sales. If it is too optimistic, the management may decide to unnecessarily increase
capacity or hire more employees and end up with more inventories.
2. Production Budget
A production budget provides information regarding the number of units that should
be produced over a given accounting period based on expected sales and targeted level of
ending inventories. It is computed as follows:
Try to answer this before looking at the answer key:

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Answer Key:
3. Budgeting Cash
Operations budget refers to the variable and fixed costs needed to run the operations
of the company but are not directly attributable to the generation of sales. Examples of this
are the following:
 Rent payments
 Wages and Salaries of selling and administrative personnel
 Administrative Costs
 Travel and representation expenses
 Professional fees
 Interest Payments
 Tax Payments
4. Cash Budget
For a business enterprise, having the right amount of cash is important since cash is
used to make payments for purchases, for operational expenses, to creditors, and for other
transactions. The cash budget forecasts the timing of these cash outflows and matches them
with cash inflows from sales and other receipts. The cash budget is also a control tool to
monitor the way the company handles cash.
Below is the general form of the Cash Budget:

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The following are the steps in formulating a cash budget:
A. Form the sales forecast, identify how much would be collected in the cash budget
period. Sales may be made in cash or for credit. Cash sales are translated to cash at
the point of sale while credit sales are collected depending on the credit period.
Credit periods may range from 10 days to more than a month depending on the
strategy of the company. Recall from the previous lesson: Financial Statement
Analysis the implications of the company’s credit policy.
Continuing from previous example, assume selling price is PHP100/unit. Sales for
each month are expected to be collected as follows:
 Month of sales : 20%
 A month after sales: 50%
 2 months after sales: 30%
How much is total receipts from sales (DIFFICULT)?

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B. Identify other receipts

Examples:
 interest received
 return on principal investments
 proceeds from sale of non-operating assets
 issuance of capital stock
 proceeds from borrowings
Add these receipts to the collections from sales to get to total receipts.
C. From the Production Budget, identify how much of the purchases made will be paid
by the company on the cash budget period. Like sales, purchases may be made in
cash or on credit depending on the supplier’s credit terms.
Continuing from previous example:

 Assume that cost per unit is PHP50.
 All purchases this month are paid the following month. How much is total cash
disbursements for purchases (AVERAGE)?

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D. From the operations budget, identify which expenses will be paid in cash during the
cash budget period. The following expense items will be paid based on the following
periods:
 Rent payments: Rent of PHP5,000.00 will be paid each month.
 Wages and salaries: Fixed salaries for the year are PHP96,000.00, or
PHP8,000.00 per month. Wages are estimated as 10% of monthly sales.
 Tax payments: Taxes of PHP25,000.00 must be paid in April.
E. Identify all other cash payments to be made. Examples:

 Fixed-asset purchases in cash
 Cash dividend payments
 Principal Payments
 Repurchase of common stock
 Purchase of stock/bond investments
It is important to recognize that depreciation and other noncash charges are NOT
included in the cash budget. The following items will be paid based on the following periods:
 Fixed-asset outlays: New machinery costing PHP130,000 will be purchased
and paid for in April.
 Interest payments: An interest payment of PHP10,000 is due in May.
 Cash dividend payments: Cash dividends of PHP20,000 will be paid in
January.
 Principal payments (loans): A PHP20,000 principal payment is due in
February.

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F. Match the receipts and disbursements on the periods they become collectible and
payable, respectively.
G. Set a minimum required cash balance. This balance is maintained in case

contingencies arise. Recall from the steps in planning that we should also plan for
contingencies.
H. If the net cash flow is above the minimum cash balance, the company is in excess
cash and may consider putting it in short term investments. If it is below, the
company should make a short term borrowing during that period.
Moreover, [A] Company has a beginning cash balance of PHP80,000.00 and would
like to maintain an ending cash balance of PHP100,000.00 per month. Prepare [A]
Company’s Cash Budget for January to May. Prepare a cash budget (DIFFICULT)

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Evaluating the Cash Budget:

If the ending cash balance after payment of all required disbursements is less than
the required ending balance, the company needs to borrow additional cash from short term
borrowings to meet its required ending balance. Should the ending cash balance exceed the
company’s minimum cash requirement the next period, the company may be able to repay
the loan plus accrued interest.
Should the Company have excess cash above its required maintaining cash balance,
the company may invest this cash on short term investments so that it will have an
opportunity to earn additional profits. If the company’s cash balance would then fall below its
minimum cash requirement, the company may withdraw the investment to be able to meet
the required cash balance.
5. Projected Financial Statements

Projected financial statements is a tool of the company to set an overall goal of what
the company’s performance and position will be for and as of the end of the year. It sets
targets to control and monitor the activities of the company. The following reports may be
forecasted:
 Projected Income Statement
 Projected Statement of Financial Position
 Projected Statement of Cash Flows
The following are the format in making financial statements projections:

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III. Working Capital Management

Working capital is the company’s investment in current assets such as cash,
accounts receivable, and inventories. Net Working capital is the difference between current
assets and current liabilities.
The flow of the Operating Cycle:
The operating cycle is the sum of days of inventory and days of receivables.
Working Capital Management is the administration and control of the company’s

working capital. The primary objective is to achieve a balance between profitability and risk.
Managing working capital is important because failure to do so may result in the

closure of business. It must be noted that working capital requirements increase as the size
or volume of the business increases. For example, a company needs PHP10 million in
working capital to support an annual sales of PHP50 million. If the sales increase to PHP100
million, will the PHP10 million working capital be enough? Most likely, the answer is no.
Why? Because with PHP100 million sales, there will be more cash needed for the
operations, more accounts receivable, and if the company is a trading or a manufacturing
company, more inventories.
Permanent and Temporary Working Capital

 Permanent Working Capital is the minimum level of current assets required by a
firm to carry-on its business operations given its production capacity or relevant sales
range.

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 Temporary working capital is the excess of working capital over the permanent
working capital given its production capacity or relevant sales range. (Source: Learn
Accounting with Online Accounting Course | Simplestudies.com. (2016).
Simplestudies.com. Retrieved 13 May 2016, from http://simplestudies.com/what-are-
the-types-of-working-capital)
During the year, sales are not the same every month. This is why companies have
slack season and peak season. If a company has annual sales of PHP50 million, chances
are these sales are not generated uniformly throughout the year. Given this situation, the net
working capital requirements during the slack season is lower than those during the peak
season. The net working capital needed to support an operation during the slack season
represents the permanent working capital requirements while the additional net working
capital needed during the peak season represents the temporary working capital
requirements.
Basically, there are three types of working capital financing policies the management
can choose from:
1. Maturity-matching working capital financing policy
Based on the maturity-matching working capital financing policy, permanent working
capital requirements should be financed by long-term sources while temporary working
capital requirements should be financed by short-term sources of financing. Long-term
sources of financing include long-term debt and equity such as common stock and preferred
stock. Short-term sources include short-term loans from a bank. These short-term loans from
banks are called working capital loans which perfectly describe the reasons why these loans
are incurred. In maturity-matching, all permanent working capital must be financed by long-
term sources while temporary working capital requirements should be financed by short-
term sources.

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2. Aggressive working capital financing policy

Under the aggressive working capital financing policy, some of the permanent
working capital requirements are financed by short-term sources of financing. Why do
managers of some companies adopt this policy? It is because long-term sources of funds
have higher cost as compared to short-term sources of financing. By financing some of the
permanent working capital requirements with short-term sources of financing, financing cost
is minimized which in turn, improves net income. But what is the trade-off? Since it is short-
term, the debt has to be paid soon and the company may not yet have enough cash by the
time the debt matures. This refers to liquidity risk and this risk increases with the aggressive
working capital financing policy.
3. Conservative working capital financing policy

Based on the conservative working capital financing policy, even some of the
temporary working capital requirements are financed by long-term sources of financing. This
policy minimizes liquidity risk but it also reduces the company’s profitability because long-
term sources of financing entail higher cost.

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IV. Managing Cash, Receivables, and Inventories
1. Cash - Being the most liquid asset, cash is an important account in the balance sheet
that will affect the liquidity, and solvency of a company. It is also the most vulnerable
when it comes to theft.
A good internal control must be properly implemented to safeguard this asset:

 A basic internal control system entails the assignment of custodial function and
recording function to separate individuals, unless you are the owner. Why is this so?
Imagine a cashier of a company who is also the chief accountant. If tempted, this
person can steal cash from the company and can manipulate the records so that
nobody can discover that he is stealing. If you are the owner, you probably will not
steal from yourself and adjust the records?
 Cash collections should be supported by official receipts which are summarized in a
daily collection report. The daily collection report is going to useful for the next control
measure for cash – depositing collections.
 A good internal control over cash is by depositing all collections intact. The daily
collection reports are now compared with the deposit slips to find out if all collections
are indeed deposited.
 If all collections need to be deposited, then payments must be made through a check
voucher system. There must also be two signatories in the check to provide a check
and balance. If the business is small then the entrepreneur’s signature may suffice.
 For small payments like the fare given to a messenger, a petty cash fund is used. A
petty cash fund which should be minimal in amount, will be issued to a petty cash
fund custodian, say the office administrator. The petty cash fund may be PHP10,000
or PHP20,000. Disbursements from this petty cash funds must be supported by a
petty cash voucher signed by the recipient of the petty cash. When the petty cash
fund is almost depleted, the petty cash fund custodian will get reimbursements. This
reimbursement will go through the check voucher system where the custodian gets a
check with the petty cash vouchers as supporting documents.
 The check must also be cross-checked by drawing two lines on the payee section of
the check. This cross-checking requires depositing of a check. It cannot be
encashed. This makes it more difficult for somebody who stole a check to get the
money.
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2. Motives for Holding Cash

The following are the reasons for holding cash:
 Primary Reasons
a. Transactional. This is the cash used for paying expenses such as salaries,
utilities, rent and taxes, among others.
b. Compensating balance. This is the cash held to meet bank requirements such
as the minimum cash balance you maintain for checking accounts and if you
have existing loans, banks may also require a minimum amount of deposit with
them.
 Secondary Reasons
a. Precautionary. This is the cash maintained for emergencies such as the
additional cash you keep during political and economic uncertainties. For
example, if your business requires a substantial amount of importation, a
relatively higher amount of cash has to be maintained when the exchange rate
becomes highly volatile due to political instability such as what happened during
EDSA II.
b. Speculative. This refers to the cash held by the company to take advantage of
opportunities (e.g. buying stocks during major corrections such as what
happened at the height of the global financial crisis in 2008 and 2009 where stock
valuations went down by as much as 80% for some companies).
3. Budgeting Cash
 The Cash Budget
The cash budget provides information regarding the company’s expected cash
receipts and disbursements over a given period. It is useful for identifying future funding
requirements or excess cash within a given period. This allows managers to find possible
sources of financing if the cash budget shows cash shortage or identify appropriate tenors
for money market placements for excess cash. Normally, a cash budget is prepared for a
one year period broken down into smaller intervals like months. This allows managers to see
the seasonality of the business which affects the cash flows.

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Basically, cash budget has the following parts:

 Cash Receipts include all of a firm’s inflows of cash in a given financial period. The
most common components of cash receipts are cash sales, collections of accounts
receivable, and other cash receipts.
 Cash Disbursements include all outlays of cash by the firm during a given financial
period. The most common cash disbursements are:
 Cash purchases
 Purchasing fixed assets
 Payments of accounts payable
 Interest payments
 Rent (and lease) payments
 Cash dividend payments
 Wages and salaries
 Principal payments (loans)
 Tax
It is important to recognize that depreciation and other noncash charges are not
included in the cash budget, because they merely represent a scheduled write-off of an
earlier cash outflow.

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4. Net Cash Flow, Ending Cash, Financing, and Excess Cash

The firm’s net cash ﬂow is found by subtracting the cash disbursements from cash
receipts in each period. Then we add beginning cash to the net cash flow to determine the
ending cash for each period. Finally, we subtract the desired minimum cash balance from
ending cash to find the required total financing or the excess cash balance. If the computed
amount is negative, the company needs financing. Otherwise, the company has excess
cash.
The cash budget is part of planning. It helps managers anticipate future funding
requirements in order to obtain proper financing even before the need arises. This will help
them avoid usurious rates. On the other hand, if the company has excess cash, managers
are able identify the investment instruments that will maximize the returns on the excess
cash.
5. Accounts Receivable
Accounts receivables spring out of the need to sell merchandise. An excellent
business proposition is to generate sales without offering a credit facility to customers.
However, this concept is theoretically sound, but not sustainable. Consider a real estate
company which sells condominium units at PHP5 million per unit. How many units can the
property developer sell if he sells the units only on cash basis? Do you think he can sell a
lot? Probably not as many as compared to providing installment payments.
Credit management strategically defines the quality of account receivables collection.
The collectability of accounts receivables depends largely on the quality of customers. The
quality of customers depends on the standards or credit policies set up and used by an
organization. Credit policies are an integral part of the credit evaluation and there are 5C’s
used in credit evaluation. These are:
 Character – the willingness of the borrower to repay the loan
 Capacity – a customer’s ability to generate cash flows
 Collateral – security pledged for payment of the loan
 Capital – a customer’s financial resources
 Condition – current economic or business conditions
Proper management of accounts receivable entails having a good billing and

collection system. A good system should lead to the sending of statements of account to
customers on time. Follow-ups through phone calls or any form of gentle reminders should
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be made if customers fail to pay on time. These follow-ups can also serve as the
management’s way of validating if the contact details given by customers are still valid and if
the customers still occupy the same office.
Aging of receivables is also a control measure to determine the amount of
receivables that are still outstanding and past due. Accounts which have been past due for
more than 90 days have higher probability to default. The aging of receivables is useful in
determining the allowance for doubtful accounts.
6. Inventory Management
Inventory management involves the formulation and administration of plans and
policies to efficiently and satisfactorily meet production and merchandising requirements and
minimize costs relative to inventories. Effective inventory management becomes critical
when the nature of the products are either perishable (e.g. fruits, vegetables), fragile
(e.g. glasses), or toxic (e.g. bleaching agent). Proper inventory management involves the
determination of reasonable levels of inventories considering the size and nature of
business. Maintaining too much inventories has costs such as carrying or holding costs,
possible obsolescence or spoilage. On the other hand, too low inventory can result to stock
out, and eventually lost sales.
7. Inventory in a Manufacturing Company

In a manufacturing company, there are three types of inventory:
 Raw materials – these are purchased materials not yet put into production.
 Work in process – these are goods and labor put into production but not yet
finished.
 Finished goods – these are goods put into production and finished. These are
ready to be sold.
8. The ABC Analysis

One way to control inventory is to classify inventory into a classification system called
ABC Analysis. Inventories classified as “A” are high valued items which should be
safeguarded the most. B items, on the other hand, are average-cost items that should be
safeguarded more than C items but not as much as A items. While C items have low cost
and is the least safeguarded

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To summarize:
Assessment:
I. Identification
1. _____________variables such as the GDP rate, inflation rate, and interest rates,
among others play an important role in forecasting sales because it tells us how
much the consumers are willing to spend.
2. A ___________ budget provides information regarding the number of units that
should be produced over a given accounting period based on expected sales and
targeted level of ending inventories.
3. ________________ refers to the variable and fixed costs needed to run the
operations of the company but are not directly attributable to the generation of sales.
4. ________________ is the company’s investment in current assets such as cash,
accounts receivable, and inventories.
5. ________________ is the administration and control of the company’s working
capital.
II. Multiple-Choice
1. The _________ inventory consists of all items currently in the production process.
(a) raw materials
(b) work-in-process
(c) finished goods
(d) apital goods
2. The _________ inventory consists of items that have been produced but not yet sold.
(a) raw materials
(b) work-in-process
(c) finished goods
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(d) capital goods
3. The three basic types of inventory are all of the following EXCEPT
(a) raw materials
(b) work-in-process
(c) finished goods
(d) capital goods
4. The _________ inventory contains the basic components of the production process.
(a) raw materials
(b) work-in-process
(c) finished goods
(d) capital goods
5. The credit applicant’s _________ is the amount of assets the applicant has available for
use in securing the credit.
(a) character
(b) capacity
(c) capital
(d) collateral
Module Summary:
In planning, the goal of maximizing shareholders’ wealth must always be put in mind.
The SMART criteria should be followed. There are different tools in budgeting and financial
statement projection such as Sales Budgeting, Production Budgeting, and Cash Budgeting.
Working capital is the company’s investment in current assets such as cash, accounts
receivable, and inventories. Working Capital Management is the administration and control
of the company’s working capital. There are also tools in managing cash, receivables, and
inventories.

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References:
CHED in collaboration with PNU (2016). Teaching Guide for Senior High School BUSINESS
FINANCE. Retrieved March 2021.
K to 12 Senior High School Accountancy, Business and Management Strand – Business

Finance May 2016
Bernstein, Leopold. (2014). Financial Statement Analysis, 4th Ed. Illinois: Irwin
Brealey, Richard A., Myers, Stewart C., and Marcus, Alan J. (2014). Fundamentals of
Corporate Finance, 3rd Edition. New York: Mc-Graw Hill Co.
Cabrera, Elenita B. (2015). Management Advisory Services. Manila: Conanan
Ilano, Alberto R. (2007). Investment Management and The Philippine Stock Market. Manila:
Conanan
https://www.shrm.org/resourcesandtools/tools-and-samples/hr-
qa/pages/couldyouexplainthedifferencebetweenstrategicandtacticalplansandgiveexamplesof
each.aspx#:~:text=A%20strategic%20plan%20supports%20the,level%20plan%20to%20achi
eve%20both.&text=A%20tactical%20plan%20answers%20%22how,within%20a%20year%2
0or%20less.


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Republic of the Philippines

CAMIGUIN POLYTECHNIC STATE COLLEGE

Document Title: LEARNING MODULE

II. Budgeting and Financial Statement Projection

Document Title: LEARNING MODULE

Try to answer this before looking at the answer key:

Document Title: LEARNING MODULE

Below is the general form of the Cash Budget:

Document Title: LEARNING MODULE

The following are the steps in formulating a cash budget:

Document Title: LEARNING MODULE

B. Identify other receipts

Continuing from previous example:

Document Title: LEARNING MODULE

E. Identify all other cash payments to be made. Examples:

Document Title: LEARNING MODULE

G. Set a minimum required cash balance. This balance is maintained in case

Document Title: LEARNING MODULE

Evaluating the Cash Budget:

5. Projected Financial Statements

The following are the format in making financial statements projections:

Document Title: LEARNING MODULE

Document Title: LEARNING MODULE

III. Working Capital Management

The flow of the Operating Cycle:

Working Capital Management is the administration and control of the company’s

Managing working capital is important because failure to do so may result in the

Permanent and Temporary Working Capital

Document Title: LEARNING MODULE

Document Title: LEARNING MODULE

2. Aggressive working capital financing policy

3. Conservative working capital financing policy

Document Title: LEARNING MODULE

IV. Managing Cash, Receivables, and Inventories

A good internal control must be properly implemented to safeguard this asset:

2. Motives for Holding Cash

Document Title: LEARNING MODULE

Basically, cash budget has the following parts:

Document Title: LEARNING MODULE

4. Net Cash Flow, Ending Cash, Financing, and Excess Cash

Proper management of accounts receivable entails having a good billing and

7. Inventory in a Manufacturing Company

8. The ABC Analysis

Document Title: LEARNING MODULE

(d) capital goods

Document Title: LEARNING MODULE

K to 12 Senior High School Accountancy, Business and Management Strand – Business

Cabrera, Elenita B. (2015). Management Advisory Services. Manila: Conanan

Document Title: LEARNING MODULE

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