Budgeting

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BudgetingBudgeting

Chapter 21Chapter 21Chapter 21Chapter 21

Learning ObjectivesLearning Objectives

1.1. Describe budgeting, its objectives, and its Describe budgeting, its objectives, and its impact on human behavior.impact on human behavior.

2.2. Describe the basic elements of the budget Describe the basic elements of the budget process, the two major types of budgeting, process, the two major types of budgeting, and the use of computers in budgeting.and the use of computers in budgeting.

3.3. Describe the master budget for a Describe the master budget for a manufacturing company.manufacturing company.

4.4. Prepare the basic income statement budgets Prepare the basic income statement budgets for a manufacturing company.for a manufacturing company.

5.5. Prepare balance sheet budgets for a Prepare balance sheet budgets for a manufacturing company.manufacturing company.


Learning Learning Objective

ObjectiveDescribe budgeting, its

Describe budgeting, its

objectives, and its impact on

objectives, and its impact on human behavior.

human behavior.

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Nature and Objectives of BudgetingNature and Objectives of Budgeting

o BudgetsBudgets play an important role for play an important role for organizations of all sizes and forms. For organizations of all sizes and forms. For example, budgets are used in managing example, budgets are used in managing the operations of government agencies, the operations of government agencies, churches, hospitals, small businesses, and churches, hospitals, small businesses, and manufacturing companies.manufacturing companies.

OBJECTIVES OF OBJECTIVES OF BUDGETINGBUDGETING

Estimated Portion of Your Total Monthly Estimated Portion of Your Total Monthly Income That Should Be Budgeted for Income That Should Be Budgeted for

Various Living ExpensesVarious Living Expenses

Source: Consumer Credit Counseling Service


Objectives of BudgetingObjectives of Budgeting

o Budgeting involves:Budgeting involves: Establishing specific goals.Establishing specific goals.

Executing plans to achieve the goals.Executing plans to achieve the goals.

Periodically comparing actual results with the Periodically comparing actual results with the goals.goals.



o Budgeting affects the following managerial Budgeting affects the following managerial functions:functions: PlanningPlanning, which involves setting goals to , which involves setting goals to

guide decisions and help motivate employees.guide decisions and help motivate employees.

DirectingDirecting, which involves decisions and , which involves decisions and actions to achieve budgeted goals.actions to achieve budgeted goals.

ControllingControlling, which involves comparing actual , which involves comparing actual performance against the budgeted goals.performance against the budgeted goals.



o A budgetary unit of a company is called a A budgetary unit of a company is called a responsibility centerresponsibility center..

o Each responsibility center is led by a Each responsibility center is led by a manager who has the authority and manager who has the authority and responsibility for achieving the center’s responsibility for achieving the center’s budgeted goals.budgeted goals.

OBJECTIVES OF OBJECTIVES OF BUDGETINGBUDGETING



o As time passes, the actual performance of As time passes, the actual performance of a responsibility center can be compared a responsibility center can be compared against the budgeted goals. This provides against the budgeted goals. This provides prompt prompt feedbackfeedback to managers and to managers and employees about their performance.employees about their performance.

o If necessary, responsibility centers can use If necessary, responsibility centers can use such feedback to adjust their activities in such feedback to adjust their activities in the future.the future.


Human Behavior and BudgetingHuman Behavior and Budgeting

o Human behavior problems can arise in the Human behavior problems can arise in the budgeting process in the following budgeting process in the following situations:situations: The budgeted goals The budgeted goals are set too tight, which are set too tight, which

are very hard or impossible to achieve.are very hard or impossible to achieve.

This may have a negative effect onThis may have a negative effect onthe company achieving its goals.the company achieving its goals.



o Human behavior problems can arise in the Human behavior problems can arise in the budgeting process in the following budgeting process in the following situations:situations: The budgeted goals The budgeted goals are set too are set too

loose, which are very easy to loose, which are very easy to achieve.achieve.

Budget “padding” isBudget “padding” is called called budgetary slack. budgetary slack.



o Human behavior problems can arise in the Human behavior problems can arise in the budgeting process in the following budgeting process in the following situations:situations: The budgeted goals The budgeted goals conflict with conflict with

the objectives of the company the objectives of the company and employees.and employees.

Goal conflict Goal conflict occurs when occurs when employees’ or managers’ employees’ or managers’ self-interest differs from the self-interest differs from the company’s goals.company’s goals.



ObjectiveDescribe the basic elements of the

Describe the basic elements of the

budget process, the two major

budget process, the two major

types of budgeting, and the use of

types of budgeting, and the use of

computers in budgeting.

computers in budgeting.

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Budgeting SystemsBudgeting Systems

o The budgetary period for operating The budgetary period for operating activities normally includes the fiscal year activities normally includes the fiscal year of a company.of a company.

o A variation of fiscal-year budgeting, called A variation of fiscal-year budgeting, called continuous budgetingcontinuous budgeting, maintains a 12-, maintains a 12-month projection into the future.month projection into the future.

BUDGETING BUDGETING SYSTEMSSYSTEMS


Budgeting SystemsBudgeting Systems

o Zero-based budgeting Zero-based budgeting requires managers requires managers to estimate sales, production, and other to estimate sales, production, and other operating data as though operations are operating data as though operations are being started for the first time.being started for the first time.


Static BudgetStatic Budget

o A A static budget static budget shows the expected results shows the expected results of a responsibility center for only one of a responsibility center for only one activity level. The budget does not change activity level. The budget does not change even if the activity changes.even if the activity changes.

o A static budget is used by many service A static budget is used by many service companies and for some administrative companies and for some administrative functions of manufacturing companies.functions of manufacturing companies.

STATIC BUDGETSTATIC BUDGET


Static BudgetStatic Budget

o The disadvantage of static budgets is that The disadvantage of static budgets is that they do not adjust for changes in revenues they do not adjust for changes in revenues and expenses that occur as volumes and expenses that occur as volumes change.change.


Flexible BudgetFlexible Budget

o Flexible budgetsFlexible budgets show the expected show the expected results of a responsibility center for results of a responsibility center for several activity levelsseveral activity levels. .

o A flexible budget is, in effect, a series of A flexible budget is, in effect, a series of static budgets for different levels of static budgets for different levels of activity.activity.

FLEXIBLE FLEXIBLE BUDGETBUDGET


Flexible BudgetFlexible Budgeto If Colter Manufacturing Company’s If Colter Manufacturing Company’s

Assembly Department spent $70,800 to Assembly Department spent $70,800 to produce 10,000 units, how much over or produce 10,000 units, how much over or under budget would the department under budget would the department manager be when using a flexible budget? manager be when using a flexible budget?

The firm would be under budget by $200 ($71,000 – $70,800).

FLEXIBLE FLEXIBLE BUDGETBUDGET



ObjectiveDescribe the master budget for a

Describe the master budget for a

manufacturing company.


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Master BudgetMaster Budget

o The The master budget master budget is an integrated set of is an integrated set of operating, investing, and financing operating, investing, and financing budgets for a period of time.budgets for a period of time.


Operating Budgets

Sales budgetCost of goods sold budget: Production budget Direct materials purchases budget Direct labor cost budget Factory overhead cost budgetSelling and administrative expenses budget

Financing Budget

Cash budget

Investing Budget

Capital expenditures budget

Budgeted Income Statement

Budgeted Balance Sheet

Master BudgetMaster Budget

o For a manufacturing company, the master For a manufacturing company, the master budget consists of the following integrated budget consists of the following integrated budgets:budgets:



ObjectivePrepare the basic income

Prepare the basic income

statement budgets for a

statement budgets for a



44

INCOME INCOME STATEMENT STATEMENT BUDGETSBUDGETS


Sales BudgetsSales Budgets

o The The sales budgetsales budget begins by estimating the begins by estimating the quantity of sales. Once sales quantities quantity of sales. Once sales quantities are estimated, the expected sales revenue are estimated, the expected sales revenue can be determined by multiplying the can be determined by multiplying the volume by the expected unit sales price.volume by the expected unit sales price.



o The prior year’s sales quantities are The prior year’s sales quantities are revised for such factors as the following:revised for such factors as the following: Backlog of unfilled sales ordersBacklog of unfilled sales orders

Planned advertising and promotionPlanned advertising and promotion

Productive capacityProductive capacity

Projected pricing changesProjected pricing changes

Findings of market research studiesFindings of market research studies

Expected industry and general economic Expected industry and general economic conditionsconditions



o Elite Accessories Inc. manufactures wallets Elite Accessories Inc. manufactures wallets and handbags that are sold in two regions, and handbags that are sold in two regions, the East and West regions. Elite the East and West regions. Elite Accessories estimates the following sales Accessories estimates the following sales quantities and prices for 2014.quantities and prices for 2014.

SALES SALES BUDGETSBUDGETS


Production BudgetProduction Budget

o The The production budgetproduction budget estimates the estimates the number of units to be manufactured to number of units to be manufactured to meet budgeted sales and desired meet budgeted sales and desired inventory levels.inventory levels.



o Elite Accessories Inc. expects the following Elite Accessories Inc. expects the following inventories of wallets and handbags:inventories of wallets and handbags:

PRODUCTION PRODUCTION BUDGETBUDGET

Production Budget

Expected units to be sold+Desired units in ending inventory– Estimated units in beginning inventory

Total units to be produced

Expected units to be sold+Desired units in ending inventory– Estimated units in beginning inventory

Total units to be produced

SalesBudget

PRODUCTION PRODUCTION BUDGETBUDGET


Direct Materials Purchases BudgetDirect Materials Purchases Budget

o The The direct materials purchases budgetdirect materials purchases budget estimates the quantities of direct estimates the quantities of direct materials to be purchased to support the materials to be purchased to support the budgeted production and desired budgeted production and desired inventory levels.inventory levels.

Production Budget

Direct MaterialsPurchases Budget


Materials needed for production + Desired ending materials inventory – Estimated beginning materials inventory

Direct materials to be purchased

Materials needed for production + Desired ending materials inventory – Estimated beginning materials inventory

Direct materials to be purchased

SalesBudget

DIRECT DIRECT MATERIALS MATERIALS PURCHASES PURCHASES

BUDGETBUDGET

Note A: 520,000 units x 0.30 sq. yd. per unit = 156,000 sq. yds.


BUDGETBUDGET

Note A: 520,000 units x 0.10 sq. yd. per unit = 52,000 sq. yds.


BUDGETBUDGET

Note B: 292,000 units x 1.25 sq. yd. per unit = 365,000 sq. yds.


BUDGETBUDGET

Note B: 292,000 units x 0.50 sq. yd. per unit = 146,000 sq. yds.


BUDGETBUDGET


Direct Labor Cost BudgetDirect Labor Cost Budget

o The The direct labor cost budgetdirect labor cost budget estimates the estimates the direct labor hours and related cost needed direct labor hours and related cost needed to support budgeted production.to support budgeted production.

Production Budget



Direct LaborCost Budget


SalesBudget

DIRECT LABOR DIRECT LABOR COST BUDGETCOST BUDGET

Note A: 520,000 units x 0.10 hr. per unit = 52,000 hrs.


Note A: 520,000 units x 0.25 hr. per unit = 130,000 hrs.


Note B: 292,000 units x 0.15 hr. per unit = 43,800 hrs.


Note B: 292,000 units x 0.40 hr. per unit = 116,800 hrs.



Factory Overhead Cost BudgetFactory Overhead Cost Budget

o The The factory overhead cost budgetfactory overhead cost budget estimates the cost for each item of factory estimates the cost for each item of factory overhead needed to support budgeted overhead needed to support budgeted production.production.

Production Budget





Factory OverheadCost Budget


SalesBudget

FACTORY FACTORY OVERHEAD OVERHEAD

COST BUDGETCOST BUDGET

FACTORY FACTORY OVERHEAD OVERHEAD

COST BUDGETCOST BUDGET


Cost of Goods Sold BudgetCost of Goods Sold Budget

o The The cost of goods sold budgetcost of goods sold budget is prepared is prepared by integrating the following budgets:by integrating the following budgets: Direct materials purchases budgetDirect materials purchases budget

Direct labor cost budgetDirect labor cost budget

Factory overhead cost budgetFactory overhead cost budget

Cost of GoodsSold Budget

Production Budget







SalesBudget

COST OF COST OF GOODS SOLD GOODS SOLD

BUDGETBUDGET

COST OF COST OF GOODS SOLD GOODS SOLD

BUDGETBUDGET


Selling and Administrative Expenses Selling and Administrative Expenses BudgetBudget

o The The selling and administrative expensesselling and administrative expenses budget budget is normally supported by is normally supported by departmental schedules. The sales budget departmental schedules. The sales budget is often used as the starting point for this is often used as the starting point for this budget.budget.








Cost of GoodsSold Budget

Selling & Administrative

ExpensesBudget

SalesBudget

SELLING AND SELLING AND ADMINISTRATIVADMINISTRATIV

E EXPENSES E EXPENSES BUDGETBUDGET

SELLING AND SELLING AND ADMINISTRATIVADMINISTRATIV

E EXPENSES E EXPENSES BUDGETBUDGET


Budgeted Income StatementBudgeted Income Statement

o The The budgeted income statementbudgeted income statement is is prepared by integrating the following prepared by integrating the following budgets:budgets: Sales budgetSales budget

Cost of goods sold budgetCost of goods sold budget

Selling and administrative expenses budgetSelling and administrative expenses budget

BUDGET BUDGET INCOME INCOME

STATEMENTSTATEMENT



ObjectivePrepare balance sheet budgets

Prepare balance sheet budgets

for a manufacturing company.

for a manufacturing company.

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Cash BudgetCash Budget

o The The cash budgetcash budget estimates the expected estimates the expected receipts (inflows) and payments (outflows) receipts (inflows) and payments (outflows) of cash for a period of time.of cash for a period of time.

ESTIMATED ESTIMATED CASH RECEIPTSCASH RECEIPTS

Receipts from cash sales:Cash sales (10% x current month’s sales—Note A)……. $108,000$124,000$ 97,000

January February March

Note A: $108,000 = $1,080,000 x 10%$124,000 = $1,240,000 x 10%$ 97,000 = $ 970,000 x 10%

Part of Exhibit 16

Part of Exhibit 16

Receipts from cash sales:Cash sales (10% x current month’s sales—Note A)…….$108,000$124,000$ 97,000


Receipts from sales on account:Collections from prior month’ssales (40% of previous month’scredit sales—Note B)………..$370,000$388,800$446,400

Note B: $370,000, given as Jan. 1, 2014, Accts. Rec. balance$388,800 = $1,080,000 x 90% x 40%$446,400 = $1,240,000 x 90% x 40%


Receipts from cash sales:Cash sales (10% x current month’s sales—Note A)…….$108,000$124,000$ 97,000


Receipts from sales on account:Collections from prior month’ssales (40% of previous month’scredit sales—Note B)………..$370,000$388,800$446,400

Collections from current month’s sales (60% of current month’scredit sales—Note C)…………583,200 669,600 523,800

Note C: $583,200 = $1,080,000 x 90% x 60%$669,600 = $1,240,000 x 90% x 60%$523,800 = $ 970,000 x 90% x 60%




Estimated Cash PaymentsEstimated Cash Payments

o To estimate cash payments for To estimate cash payments for manufacturing costs, a manufacturing costs, a schedule of schedule of payments for manufacturing costspayments for manufacturing costs is is prepared.prepared.


Note A: $190,000, given as January 1, 2014, Accounts Payable balance$204,000 = ($840,000 – $24,000) x 25%$189,000 = ($780,000 – $24,000) x 25%

Payments of prior month’s manufacturing costs {[25% x previousmonth’s manufacturing costs(less depreciation)]—Note A}…..$190,000$204,000$189,000

From Exhibit 17From Exhibit 17

ESTIMATED ESTIMATED CASH CASH

PAYMENTSPAYMENTS

Payments of prior month’s manufacturing costs {[25% x previousmonth’s manufacturing costs(less depreciation)]—Note A}…..$190,000$204,000$189,000


Payments of current month’s manufacturing costs {[75% x current month’s manufacturingcosts (less depreciation)]—Note B}…………….…………… $612,000 $567,000$591,000

Note B: $612,000 = ($840,000 – $24,000) x 75%$567,000 = ($780,000 – $24,000) x 75%$591,000 = ($812,000 – $24,000) x 75%


PAYMENTSPAYMENTS


PAYMENTSPAYMENTS

CASH BUDGETCASH BUDGET


Capital Expenditures BudgetCapital Expenditures Budget

o The The capital expenditures budgetcapital expenditures budget summarizes plans for acquiring fixed summarizes plans for acquiring fixed assets. Such expenditures are necessary assets. Such expenditures are necessary as machinery and other fixed assets wear as machinery and other fixed assets wear out or become obsolete.out or become obsolete.

o In addition, purchasing additional fixed In addition, purchasing additional fixed assets may be necessary to meet assets may be necessary to meet increasing demand for the company’s increasing demand for the company’s product.product.

CAPITAL CAPITAL EXPENDITURES EXPENDITURES

BUDGETBUDGET


Budgeted Balance SheetBudgeted Balance Sheet

o The The budgeted balance sheetbudgeted balance sheet is prepared is prepared based on the operating, financing, and based on the operating, financing, and investing budgets of the master budget. It investing budgets of the master budget. It is similar to a normal balance sheet except is similar to a normal balance sheet except that estimated amounts are used.that estimated amounts are used.


BudgetingBudgeting

The EndThe EndThe EndThe End

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Budgeting