A Project Funded by USDA BFRDP Grant #10506276
Development Partners Include:
Lesson 2. Cash Flow Budgets
Introduction
Cash flow budgets provide detail about periods when cash outflows exceed cash inflows. Often, businesses will need extra cash to supplement periods of high cash expenses and debt repayment. Loans are one way to offset cash flow issues if they are estimated properly and timely. Other cash reserves may also factor into the feasibility of a project.
This lesson introduces cash flow budget components, such as cash expenses, debt payments, capital purchases and cash revenues. Students will create a cash flow budget and analyze the condition of the business plan. They will also examine loans and calculate estimated interest costs for operating loans that factor into cash flow budget analysis.
Learning Outcomes
After completing the activities included as part of this lesson, students should know and understand the following:
1. Identify the components included in a cash flow budget.
2. Develop a cash flow budget based on data provided about cash expenses and revenue.
3. Calculate estimated interest for an operating loan and use interest and principal amounts for budgeting.
4. Analyze loan feasibility based on projected estimation of interest expense.
Performance Objectives
Students will complete the following activities or skills in order to learn the intended outcomes of this lesson:
1. Complete a cash flow budget from data provided.
2. Calculate interest estimation for scenarios provided.
3. Complete Part 2 of a case study to create a cash flow budget from raw data.
Standards and Benchmarks Alignment
AFNR Career Cluster – LifeKnowledge
®and Cluster Skills
Content Standards
This lesson will address parts of the following performance elements:
CS.03. Performance Element: Career Success: Demonstrate those qualities, attributes and skills necessary to succeed in, or further prepare for, a chosen career while effectively contributing to society.
AFNR Career Cluster – Agribusiness Systems Career Pathway Content Standards
This lesson will address parts of the following performance elements:
ABS.01. Performance Element: Utilize economic principles to establish and manage an AFNR enterprise.
ABS.02. Performance Element: Utilize appropriate management planning principles in AFNR business enterprises.
ABS.03. Performance Element: Utilize record keeping to accomplish AFNR business objectives while complying with laws and regulations.
ABS.04. Performance Element: Apply generally accepted accounting principles and skills to manage cash budgets, credit budgets and credit for AFNR businesses.
ABS.05. Performance Element: Assess accomplishments of goals and objectives by an AFNR business.
ABS.07. Performance Element: Create a production system plan.
Common Core State Standards for High School Mathematics
Modeling standards are indicated by the star symbol (*) throughout other conceptual categories.
Conceptual Category – Number and Quantity
The Real Number System Use properties of rational and irrational numbers.
Quantities *Reason quantitatively and use units to solve problems.
Conceptual Category – Algebra
Seeing Structure in Expressions
*Interpret the structure of expressions.
Seeing Structure in Expressions
*Write expressions in equivalent forms to solve problems.
Arithmetic with Polynomials and Rational
Expressions
Perform arithmetic operations on polynomials.
Creating Equations *Create equations that describe numbers or relationships.
Reasoning with Equations and Inequalities
Understand solving equations as a process of reasoning and explain the reasoning.
Common Core State Standards for English Language Arts
Range of Reading and Level of Text
Complexity
Read and comprehend complex literary and informational texts independently and proficiently.
College and Career Readiness Anchor Standards for Writing
Research to Build and Present Knowledge
Draw evidence from literary or informational texts to support analysis, reflection, and research.
Essential Questions
Students should consider the following questions as they complete the components of this lesson:
1. How are cash flow budgets different from enterprise budgets?
2. What are the essential components needed for a cash flow budget?
3. Why are cash flow budgets developed?
4. What are cash expenses and revenues?
5. Why does a business need a loan?
6. What is principal?
7. How is interest calculated for a loan?
8. What is interest and why do businesses have to pay interest expenses?
9. How can business plans be altered based on a cash flow budget?
Vocabulary
Cash Expense Expenses which include cash items, e.g., purchases of animals, expenditures for breeding fees, taxes, farm improvements, machinery, feed, crops, hired labor, interest on farm debts, farm insurance, etc.
Cash Flow A payment or receipt in the form of cash
Cash Flow Budget A statement of projected payments and receipts associated with a particular business plan
Cash Revenue Money received from a business operation
Feasibility Capable of being accomplished or brought about; possible Interest A charge for borrowed money generally a percentage of the
amount borrowed Loan Money lent at interest
Principal The original amount of a debt or investment on which interest is calculated
Instructional Timeline
Time: 6 days (based on 45-minute class periods)
Day 1 – 2:
Teacher will introduce the lesson providing an overview of Learning Outcomes, Performance Objectives, and Essential Questions.
Teacher will present PowerPoint® Cash Flow Budget Components.
Students will take notes on the presentation.
Teacher will provide students with Activity 1 – Monitoring the Flow of Cash.
Students will complete Activity 1 – Monitoring the Flow of Cash.
Day 3:
Teacher will review Activity 1 – Monitoring the Flow of Cash and answer any remaining questions or clarify confusion about the activity.
Students will submit Activity 1 – Monitoring the Flow of Cash for grading.
Teacher will present PowerPoint® Principal and Interest.
Students will take notes on the presentation.
Teacher will provide students with Activity 2 – Costs of a Loan.
Students will complete Part 1 of Activity 2 – Costs of a Loan.
Day 4:
Students will complete the remainder of Activity 2 – Costs of a Loan and submit for grading.
Teacher will review learning outcomes from the first two activities and check for student understanding or misconceptions.
Teacher will provide students Activity 3 – Case Study: Part 2.
Day 5 – 6:
Students will complete Activity 3 – Case Study: Part 2 and submit for grading.
OPTIONAL: Teacher will use the PowerPoint® Megan’s Project to show answers to Part 2 of the case study.
Teacher will provide a quiz or formative assessment to check for student understanding of learning outcomes.
Citations
Oklahoma Cooperative Extension Service. (2012). Cash flow planning, publication AGEC-751. Document retrieved from
http://pods.dasnr.okstate.edu/docushare/dsweb/Get/Document-1782/AGEC- 751web2010.pdf
Teacher Briefs
PowerPoint® Cash Flow Budget Components
This presentation introduces students to terms and how to select appropriate data for use in a cash flow budget. This presentation must precede Activity 1 – Monitoring the Flow of Cash.
Activity 1 – Monitoring the Flow of Cash
Sum up cash expenses that are paid DURING the growing season. In this case, all expenses EXCEPT depreciation are cash. However, interest on fixed assets is probably not paid during the growing season. Also, taxes are not usually paid during the growing season. Therefore, the grower will be paying interest on $229. This amount is paid out over the growing season, eight months. Over the 8 months, the grower has an average of $114.50 (=$229/2) invested—he starts with $0 on April 1 and ends with $229 on November 30. He pays interest on the average amount for eight months and this value ($5.34) is provided. The rest of the cash flow is
straightforward.
Cash flow budget for corn enterprise (per acre) Sources of cash
Corn sales (100 bu × $3.40/bu) $340.00
Total sources of cash $340.00
Uses of cash
Seed $ 62.00
Fertilizer $ 33.00
Pesticides $ 23.00
Crop insurance $ 8.00
Labor $ 10.00
Fuel, oil, lube $ 58.00
Rent $ 30.00
Interest on fixed assets $ 16.00 Taxes on fixed assets $ 4.00
Repairs $ 5.00
Interest on operating $ 5.34
Total uses of cash $254.34
Expected net cash flow $ 85.76
PowerPoint® Principal and Interest
To help students understand estimating interest expenses, this presentation breaks down a loan and how to calculate interest. The formula provided is important for students to use for future activities.
Activity 2 – Costs of a Loan
This activity applies what students learned from the presentation about calculating estimated interest expense. The following is the answer key to help you examine student work.
Loan 1 - Laura’s llama project has a cash expense estimate of $8,200. She needs to finance 60% of this amount with a loan from her dad at 5% interest. She will need this loan for nine months until newborn llamas can be sold.
Calculate the estimated interest Laura will expect to pay over the course of this loan – show work.
($8200/2) x (.05/12) x 9 x .6 = x
$4100 x .00417 x 9 x .6 = $92.25
Loan 2 - Kyle found an 8% loan to cover 40% of his expenses for his fishing guide business. His budget estimates that he will have $17,500 in cash expenses over the next 11 months during his projected loan period.
Calculate the estimated interest Kyle will expect to pay over the course of this loan – show work.
($17500/2) x (.08/12) x 11 x .4 = x
$8750 x .0067 x 11 x .4 = $257.95 ($256.66 no rounding)
Part 2 – Loan Analysis
Option 1 – Low interest loan on a high principal amount
Justin can buy some feeder livestock and raise them to earn cash before the rest of the products are ready for sale. To do this he needs a bigger loan. The good news is that a bigger loan fetches a lower interest rate. Here are the numbers:
Interest rate 4.5%
Loan duration is for 8 months
Estimated cash expenses are $39,800
Justin will need to finance 70% of the cash expenses (39800/2) x (.045/12) x 8 months x .7 = x
19900 x .00375 x 8 x .7 = $417.90 of interest cost over 8 months
Option 2 – Justin could opt not to purchase the feeder livestock and go with his current business plan. His interest rate goes up for a lower principal loan so he is
Justin will need to finance 50% of the cash expenses (20000/2) x (.068/12) x 8 months x .5 = x
10000 x .00567 x 8 x .5 = $226.66 of interest costs over 8 months
Which option has the lowest interest cost?
Option 2 is best.
What other information is needed to decide between option 1 or option 2?
1) Expected profit and 2) net cash flow from the alternative business plan
Activity 3 – Case Study: Part 2
This activity is an extension of part 1 presented in Lesson 1. The following is the solution.
Annual Cash Flow Budget Sources of cash
Beginning cash balance $500.00
Crop sales
Livestock sales $693.00
Custom work
Sale of depreciable assets Sale of land
Proceeds from planned borrowing—cow note $250.00 Proceeds from planned borrowing—operating note $309.60 Other sources of cash
Total sources of cash $1,752.60 (A) Uses of cash
Cash expenses (excluding interest paid) $309.60
Breeding stock purchases $750.00
Purchase of other depreciable assets Purchases of land
Principal payments $ 79.00
Interest payments on long-term debt $ 12.50
Operating note repayment $309.60
Interest on operating note $ 7.74
Other uses of cash
Total uses of cash $1,468.44 (B) Net cash surplus of deficit $ 284.16 (A-B)
Explanation:
First, enter sources of cash. Enter the cash revenue from the sale of the calf. Enter the proceeds from the loan to purchase the bred cow and the proceeds from the operating note. The only other source of cash is Megan’s beginning cash balance of
$500.
Next, enter uses of cash. Enter the cash expenses (feed and veterinary). The full purchase price of the bred cow is entered. The principal payment and interest on the cow note are entered. The operating note will be repaid when the calf is sold. Then, estimate the interest on the operating note as ($309.60 ⁄ 2) × 0.05= $7.74.
While Megan’s project appears to have positive cash flow for the first year, if she needed to improve cash flow, she might be able to reduce the heifer’s feed costs.
She might be able to “roll” part of her operating note balance forward into the next year—if she anticipates more cash flow in the coming year. Since she should sell two calves in the coming year, this is a possibility. However, this is not
recommended as a standard practice. Carry-over of an operating loan is often the first sign of growing financial stress in a commercial operation. If circumstances are not expected to improve dramatically in the following year, operators can find themselves accumulating debt loads from which they may not be able to recover.
