Pharma Pesticides Corp. uses the sales forecast to plan production. Th

Pharma Pesticides Corp. uses the sales forecast to plan production. The company produces the bug killer “2K Spray” one month in advance of the forecasted sale.

The January sales forecast of 380 units will be scheduled for December production. However, the company also notes that sales forecasts and actual sales can differ, and the company has a policy of having 10% in inventory to accommodate sales above forecast. Raw materials for 2K Spray are acquired the month ahead (in this case, November). Wages are paid in the current month of production (December). Utilities are paid a month after production (January), and shipping is paid a month after the sale (two months after production, February). Finally, an inventory count reveals that there are currently 30 units on hand above the projected sales for November (at the start of November when the raw material order is placed). Unit production costs are $500 for raw materials, $300 for wages, $200 for utilities, and $100 for shipping. Determine the month of cash outflow for a December production. What would you need to determine January’s cash outflow? What would complicate this process?
What will be an ideal response?

ANSWER

Answer: If the January sales forecast is for 380 units and the management has a ten percent safety level of stock, then it wants 380 + 38, or 418 units in inventory at the start of January. If the beginning inventory is 30 units, then the December production schedule is for 418 units – 30 units = 388 units. Now we can determine the cash outflows for December production.
Raw materials: 388 × $500 = $194,000 paid in November.
Wages: 388 × $300 = $116,400 paid in December
Utilities: 388 × $200 = $77,600 paid in January
Shipping: 388 × $100 = $38,800 paid in February
This just estimates when the December production for the anticipated January sales would manifest into cash outflow. To determine January’s cash outflow, you would need (1) March sales for the raw materials order in January for February production, (2) February sales for wages associated with January production, (3) January sales for utilities associated with December production (this is the $77,600 above), and (4) December sales for shipping costs that would be paid in January. And complicating the whole process is inventory estimates for each month to adjust the production schedule for beginning and ending inventory.