Rentz Corporation is investigating the optimal level of current assets for the coming year. Management expects sales to increase to approximately $2 million as a result of an asset expansion presently being undertaken. Fixed assets total$1 million, and the firm plans to maintain a 60% debt-to-assets ratio. Rentz’s interest rate is currently 8% on both short- and long-term debt (which the firm uses in its permanent structure). Three alternatives regarding the projected current assets level are under consideration: (1) a restricted policy where current assets would be only 45% of projected sales, (2) a moderate policy where current assets would be 50% of sales, and (3) a relaxed policy where current assets would be 60% of sales. Earnings before interest and taxes should be 12% of total sales, and the federal-plus-state tax rate is 40%. a. What is the expected return on equity under each current assets level? b. In this problem, we assume that expected sales are independent of the current assets investment policy. Is this a valid assumption? Why or why not? c. How would the firm’s risk be affected by the different policies?

Helen Bowers, owner of Helen's Fashion Designs, is planning to request a line of credit from her bank. She has estimated the following sales forecasts for the firm for parts of $2015$ and $2016$:

$$\begin{array}{lr}\text { May } 2015 & \$ 180,000 \\ \text { June } & 180,000 \\ \text { July } & 360,000 \\ \text { August } & 540,000 \\ \text { September } & 720,000 \\ \text { October } & 360,000 \\ \text { November } & 360,000 \\ \text { December } & 90,000 \\ \text { January } 2016 & 180,000\end{array}$$

Estimates regarding payments obtained from the credit department are as follows: collected within the month of sale, $10 \%$; collected the month following the sale, $75 \%$; collected the second month following the sale, $15 \%$. Payments for labor and raw materials are made the month after these services were provided. Here are the estimated costs of labor plus raw materials:

$$\begin{array}{lr}\text { May 2015 } & \$ 90,000 \\ \text { June } & 90,000 \\ \text { July } & 126,000 \\ \text { August } & 882,000 \\ \text { September } & 306,000 \\ \text { October } & 234,000 \\ \text { November } & 162,000 \\ \text { December } & 90,000\end{array}$$

General and administrative salaries are approximately $\$ 27,000 \mathrm{a}$ month. Lease payments under long-term leases are $\$ 9,000$ a month. Depreciation charges are $\$ 36,000$ a month. Miscellaneous expenses are $\$ 2,700$ a month. Income tax payments of $\$ 63,000$ are due in September and December. A progress payment of $\$ 180,000$ on a new design studio must be paid in October. Cash on hand on July $1$ will be $\$ 132,000$, and a minimum cash balance of $\$ 90,000$ should be maintained throughout the cash budget period.

a. Prepare a monthly cash budget for the last $6$ months of $2015$.

b. Prepare monthly estimates of the required financing or excess funds-that is, the amount of money Bowers will need to borrow or will have available to invest.

c. Now suppose receipts from sales come in uniformly during the month (that is, cash receipts come in at the rate of $1 / 30$ each day), but all outflows must be paid on the $5^{\text {th }}$. Will this affect the cash budget? That is, will the cash budget you prepared be valid under these assumptions? If not, what could be done to make a valid estimate of the peak financing requirements? No calculations are required, although if you prefer, you can use calculations to illustrate the effects.

d. Bowers' sales are seasonal; and her company produces on a seasonal basis, just ahead of sales. Without making any calculations, discuss how the company's current and debt ratios would vary during the year if all financial requirements were met with short-term bank loans. Could changes in these ratios affect the firm's ability to obtain bank credit? Explain.

Helen Bowers, owner of Helen’s Fashion Designs, is planning to request a line of credit from her bank. She has estimated the following sales forecasts for the firm for parts of 2016 and 2017.

$$\begin{matrix} \text{May 2016} & \text{\$ 180.000}\\ \text{June} & \text{180.000}\\ \text{July} & \text{360.000}\\ \text{August} & \text{540.000}\\ \text{September} & \text{720.000}\\ \text{October} & \text{360.000}\\ \text{November} & \text{360.000}\\ \text{December} & \text{90.000}\\ \text{January 2017} & \text{180.000}\\ \end{matrix}$$

Estimates regarding payments obtained from the credit department are as follows: collected within the month of sale, 10%; collected the month following the sale, 75%; collected the second month following the sale, 15%. Payments for labor and raw materials are made the month after these services were provided. Here are the estimated costs of labor plus raw materials:

$$\begin{matrix} \text{May 2016} & \text{\$ 90.000}\\ \text{June} & \text{90.000}\\ \text{July} & \text{126.000}\\ \text{August} & \text{882.000}\\ \text{September} & \text{306.000}\\ \text{October} & \text{234.000}\\ \text{November} & \text{162.000}\\ \text{December} & \text{90.000}\\ \end{matrix}$$

General and administrative salaries are approximately $27,000 a month. Lease payments under long-term leases are$9,000 a month. Depreciation charges are $36,000 a month. Miscellaneous expenses are$2,700 a month. Income tax payments of $63,000 are due in September and December. A progress payment of$180,000 on a new design studio must be paid in October. Cash on hand on July 1 will be $132,000, and a minimum cash balance of$90,000 should be maintained throughout the cash budget period. a. Prepare a monthly cash budget for the last 6 months of 2016. b. Prepare monthly estimates of the required financing or excess funds—that is, the amount of money Bowers will need to borrow or will have available to invest. c. Now suppose receipts from sales come in uniformly during the month (that is, cash receipts come in at the rate of 1/30 each day), but all outflows must be paid on the 5th. Will this affect the cash budget? That is, will the cash budget you prepared be valid under these assumptions? If not, what could be done to make a valid estimate of the peak financing requirements? No calculations are required, although if you prefer, you can use calculations to illustrate the effects. d. Bowers’ sales are seasonal; and her company produces on a seasonal basis, just ahead of sales. Without making any calculations, discuss how the company’s current and debt ratios would vary during the year if all financial requirements were met with short-term bank loans. Could changes in these ratios affect the firm’s ability to obtain bank credit? Explain.