Management Accounting and Decision Making

The construction of budgets for a café
Kate has £100,000 available to invest in a new cafe which she will open on 2 January 2013. In addition, she has agreed with a relative a long-term loan of 68,000 payable in 10 years. She has agreed to pay that relative £25,000 interest at the end of every year to repay the loan. On the first year she proposes to spend the £168,000 as follows:
Leasehold Property (50 year lease) £ 100,000
Furniture and fittings (10 year life) 50,000
Kitchen equipment (10 year life) 10,000
China, glass and cutlery 1,000
Initial inventory 2,000
Cash remaining 5,000
£168,000

She has made the following forecasts:

The cafe will have seating space for 30 covers and will be open for breakfast and lunch seven days a week. Full potential for the café is achieved in July and sales will only be a fraction of that potential as follows: January (40%), February (50%), March (60%), April (70%), May (80%), June (90%).

It is considered that there will be a cover turnaround for breakfast of three (3) on Thursdays, Fridays Saturdays and Sundays and four (4) for lunch on those days; and two Monday thru Wednesday (turnaround for both breakfast and lunch). The café opens at 6 AM and closes at 4 PM. The average transaction for seat-ins is considered to be £9.50. The Café will close: Tuesday 1 January (New Year’s Day), Friday 29 March (Good Friday) and Wednesday 25 and Thursday 26 December (Christmas Day and Boxing Day).

As well as serving breakfasts and lunches, there will also be an average of 90 takeaways daily. The average transaction for a take away is £3.25

There is a contract with a nearby construction company that gives 5% of all business of sales and they are given a month-credit. The rest of sales are cash sales.

Monthly purchases of food, drink, miscellaneous are expected to be 30% of sales. 70% of these purchases will be on credit and 30% in cash. It is planned to pay creditors in the month after the purchase takes place.

Labour cost is budgeted at 30% of sales. Overhead costs are budgeted at 25% of sales and will be paid with a time lag of one month.

Depreciation uses the straight line method. Annual losses for the china, glass and cutlery are expected to be £100.

Inventory levels are expected to be £2,000 on average. Ignore taxation.
Required
Prepare a report for the board of directors that addresses the following tasks:

Task 1 (Introduction)
Write a 500-word introduction about the need for budgetary planning and the process for preparing budgets (15 marks)

Task 2 (30 marks)
Prepare the following documents for the first year of Kate’s operations:

• A cash budget (10 marks)
• A budgeted income statement (10 marks)
• A budgeted statement of financial position (10 marks)

Task 3 (25 marks)
• Calculate NPV for Kate at the end of the third year (10 marks) and payback period (6 marks). Assume the following:
• Discount rate of 9%.
• Net cash flow will grow 4% year on year.
• Use four decimal points in the Discount Factor
• Kate will consider the NPV at the end of year 3 to consider whether the café is a good investment proposition. Using the NPV concept, give advice to Kate. (9 marks)

Task 4 (20 marks)
Discuss the concept of sensitivity analysis (8 marks), evaluate the importance of conducting sensitivity analysis for these type of projects (6 marks) and calculate the combined effect of the following factors (change in economic environment):
• Cost of sales will increase to 35% of sales.
• Average Transaction will reduce to £3.00
• Labour costs will increase to 32% (2 marks, each factor)

NOTE: YOU MUST SHOW THE WORKINGS OF EACH CALCULATION IN ALL TASKS

Overall Presentation (10%)
The report should
Have a word count of 1,500-2,000 words
Have a table of Contents
Good Spelling & Grammar
Appendices that support your argument
Include a Bibliography (a written bibliography of sources must be submitted).Please apply the Harvard System for citations and bibliography
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