The diagram shows a simplified cash-flow route for ForgeFit, a business making home exercise equipment. The owner plans to buy a new cutting machine for $75...
Question 1 Report
The diagram shows a simplified cash-flow route for ForgeFit, a business making home exercise equipment. The owner plans to buy a new cutting machine for $75 000. Although ForgeFit reported a profit of $90 000, the owner has been advised that profit is not the same as cash. Some customers pay after 60 days, while the business must pay its steel supplier within 30 days. The owner is considering either a bank overdraft or delaying the machine purchase. Accurate working and analysis are important because late supplier payments could stop production.
(a) State the amount of cash received from customers. [1]
(b) Define an overdraft. [1]
(c) Calculate the net cash generated from the customer and supplier flows shown in Fig. 1. Show your working. [3]
(d) Analyse whether ForgeFit should use an overdraft to buy the new machine now. [5]
Answer Details
(a) Cash received from customers is $390,000. [1]
(b) An overdraft is a bank facility allowing a business to withdraw more money than it has in its account. [1]
(c) \[\text{Net cash generated}=\$390000-\$340000=\$50000\] Net cash generated is $50,000. [3]
(d) ForgeFit has generated only $50,000 cash from the flows shown, while the machine costs $75,000. An overdraft could provide the additional $25,000 needed to buy it now. Buying now may increase capacity and future sales. However, overdraft interest increases costs. The $30,000 owed by customers also shows why sales or profit are not always immediately available as cash. Delaying may be safer if production can continue; an overdraft is appropriate only if extra cash inflows from the machine exceed interest and repayments. [5]
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