CHAPTER © jsnyderdesign / iStockphoto 5 PLANNING AND FORECASTING

CHAPTER

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5PLANNING ANDFORECASTING

5

WHAT IS THE FUTURE FOR C&C?

► Cash flow has been a problem. Is $7,000 in cash enough to operate on?

► C&C has borrowed money to finance operations► An increase in award jacket sales may be the

answer to more cash► C&C’s president, George Douglas, wants to

decrease inventory levels, but he is concerned that customer satisfaction will be affected

PLANNING AND THEBUDGETING PROCESS

Unit 5.1

51.Unit 5.2 Unit 5.3 Unit 5.4

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Unit 5.5

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WHAT IS A BUDGET?

► An operating plan expressed in dollars► Shows how resources will be committed during

the coming period► Helps plan for the future► Communicates corporate direction and

coordinates corporate efforts

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THE ROLES OF BUDGETING

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BUDGETING INFORMATION FLOWS

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TOP-DOWN BUDGETS: ADVANTAGES

► Increase probability that the organization’s strategic plans will be incorporated in planned activities

► Enhance coordination among divisional plans and objectives

► Use top management’s knowledge of overall resource availability

► Reduce the time frame for the budgeting process

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TOP-DOWN BUDGETS: DISADVANTAGES

► May result in dissatisfaction, defensiveness, and low morale among individuals who must work under the budget

► Reduces the feeling of teamwork► May limit the acceptance of the stated goals and

objectives► May create a view of the budget as a punitive

device

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BOTTOM-UP BUDGETS: ADVANTAGES

► Gathers information from persons most familiar with the needs and constraints of organizational units

► Allow organizational units to coordinate with one another

► Lead to better morale and higher motivation► Develop a high degree of acceptance of and

commitment to organizational goals and objectives by operating management

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BOTTOM-UP BUDGETS: DISADVANTAGES

► Require significantly more time► Effects of managerial participation may be

negated by top-management changes► Managers may be ambivalent or unqualified to

participate, creating an unachievable budget► May cause managers to introduce slack into the

budget

PERFORMANCESTANDARDS

Unit 5.1

52.Unit 5.2 Unit 5.3 Unit 5.4

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Unit 5.5

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WHAT IS A STANDARD?

► Benchmark for measuring performance – an expectation

► What are some examples of standards you are familiar with?

► In accounting, you can think of it as a budget of a single unit of output

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THE STANDARD CONTINUUM

PRACTICAL IDEAL

Tight, but attainable

Perfection, “Factory Heaven”

Where do you want to be?

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IDEAL STANDARDS

ADVANTAGES► Motivational tool► Constant reminder to

workers of need for increased efficiency

DISADVANTAGES► De-motivating because you

know you can never achieve the standard

► Employees may take shortcuts and reduce effectiveness

► Poor planning tool

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PRACTICAL STANDARDS

ADVANTAGES► Motivate employees to

perform► Good planning tool

DISADVANTAGES► ???

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SETTING STANDARDS

► Standards are set for both quantity and price of each input (materials, labor and overhead)

► Estimated cost to manufacture a single unit of product or perform a single service

► A budget for a single unit of output

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HOW DO YOU SET MATERIALS STANDARDS?

► What are the inputs?► How much of each input is

required?► What is the required quality

of each input?► How much does each unit

of input cost?

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C&C DIRECT MATERIALS STANDARDS

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HOW DO YOU SET LABOR STANDARDS?

► What are the operations required to produce the product?

► How long does it take to perform each operation?

► Who performs each operation and how much are they paid?

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C&C DIRECT LABOR STANDARDS

Item Rate

Base hourly rate $8.00

Payroll taxes 0.60

Fringe benefits 1.00

Standard direct labor rate $9.60

Activity Direct Labor Hours

Cutting .02

Sewing .18

Machine down-time .01

Rest period .03

Standard direct labor hours .25

$9.60 per direct labor hour x .25 direct labor hours = $2.40

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HOW DO YOU SET OVERHEAD STANDARDS?

► The predetermined overhead rate

BUILDING THE MASTER BUDGET:THE OPERATING BUDGET

Unit 5.1

53.Unit 5.2 Unit 5.3 Unit 5.4

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Unit 5.5

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COMPONENTS OF THE MASTER BUDGET

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SALES BUDGET

► Shows budgeted sales revenue for the period, which flows to the budgeted income statement for the period

► Begins with the sales forecast, which typically will be prepared by the sales and marketing departments

► Requires a forecasted sales price in addition to the sales volume forecast

► Is prepared for each product

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C&C’S SALES BUDGET

Notice that the individual sales budget amount flows to the overall sales budget.

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SELLING & ADMINISTRATIVE EXPENSE BUDGET

► Shows expenses to be incurred to support the budgeted level of sales

► Includes variable and fixed expenses► Pay special attention to non-cash expenses such

as bad debt expense and depreciation expense. These expenses do not flow to the cash budget.

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C&C’S S&A EXPENSE BUDGET

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PRODUCTION BUDGET

► Shows when and how many units to produce in order to meet budgeted sales volume

► Includes budgeted ending inventory of finished goods to provide a cushion for unexpected sales

► A retail establishment will have a purchases budget rather than a production budget

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C&C’S PRODUCTION BUDGET

Budgeted Sales

Budgeted End. Inv.

Budgeted Beg. Inv.

Budgeted Production

+ _ =

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DIRECT MATERIALS PURCHASES BUDGET

► Shows when and how much of each direct material to purchase in order to meet the production budget

► Includes budgeted ending inventory of direct materials to provide a cushion for production errors or supply shortfalls

► Is prepared for each direct material input used in the production process

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C&C’S DIRECT MATERIALS BUDGET

Notice that you must convert from units of finished goods to units of the direct material

– here from pants to yards of fabric.

Notice that you must convert from units of finished goods to units of the direct material

– here from pants to yards of fabric.

Budgeted inventory levels are calculated using the same principle as

in the production budget.

Budgeted inventory levels are calculated using the same principle as

in the production budget.

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DIRECT LABOR BUDGET

► Shows when and how much of each direct labor category to employ in order to meet the production budget

► May use average standard wage rates for each class of direct laborer rather than actual wage rates for each employee

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C&C’S DIRECT LABOR BUDGET

NOTE: If the standard production time is stated in minutes, you must convert to the hour decimal equivalent since the standard wage rate is stated on an hourly basis.

NOTE: If the standard production time is stated in minutes, you must convert to the hour decimal equivalent since the standard wage rate is stated on an hourly basis.

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MANUFACTURING OVERHEAD BUDGET

► Is based on budgeted production levels of the overhead application base

► Uses the predetermined overhead rate for variable overhead

► Assumes budgeted fixed overhead cost is incurred evenly throughout the budget period

► Pay special attention to non-cash expenses such as depreciation expense that do not flow to the cash budget

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C&C’S OVERHEAD BUDGET

Don’t forget to subtract the non-cash expenses to determine the amount of cash expenditures that

will carry through to the cash budget.

Don’t forget to subtract the non-cash expenses to determine the amount of cash expenditures that

will carry through to the cash budget.

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ENDING INVENTORY AND COGS BUDGET

► Shows desired levels of ending inventory► Assists in the preparation of budgeted balance

sheet and income statement

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C&C’S ENDING RAW MATERIALS BUDGET

DM usage is based on budgeted production and standard DM cost per unit

DM usage is based on budgeted production and standard DM cost per unit

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C&C’S ENDING FINISHED GOODS BUDGET

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C&C’S COST OF GOODS SOLD BUDGET

BUILDING THE MASTER BUDGET:THE OPERATING BUDGET

Unit 5.1

54.Unit 5.2 Unit 5.3 Unit 5.4

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Unit 5.5

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THE CASH BUDGET

Cash available to spend- Cash disbursements= Cash excess or cash needed+ Short-term financing= Ending cash balance

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CASH AVAILABLE TO SPEND

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CASH RECEIPTS BUDGET

► Based on sales budget► Requires knowledge of historical accounts

receivable collection patterns► Distinguishes between cash sales and credit sales► Provides ending accounts receivable balance for

the budgeted balance sheet

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C&C’S CASH RECEIPTS BUDGET

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CASH DISBURSEMENTS

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CASH PAYMENTS FOR MATERIALS BUDGET

► Shows when payments for materials purchases will be made

► Requires knowledge of past accounts payable payment patterns

► Calculates ending accounts payable balance for the budgeted balance sheet

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C&C’S CASH PAYMENTS FOR MATERIALS BUDGET

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CASH EXCESS (NEEDED)

► Cash available minus cash disbursements► Many banks require a minimum cash balance, and

that must be figured into the amount of cash excess (needed)

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C&C’S CASH EXCESS (NEEDED)

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SHORT-TERM FINANCING

► This section is only prepared if there is a need to borrow money or repay previously borrowed money

► Shows principal and interest amounts► Provides the ending cash balance for the

budgeted balance sheet and interest expense for the budgeted income statement

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C&CS’ SHORT-TERM FINANCING

C&c’s cash budget

PRO-FORMA FINANCIALSTATEMENTS

Unit 5.1

55.Unit 5.2 Unit 5.3 Unit 5.4

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Unit 5.5

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PRO-FORMA FINANCIAL STATEMENTS

► Reports “as-if” results rather than actual results► Shows the financial position of the company

assuming the budget is achieved

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C&C’S PRO-FORMA INCOME STATEMENT