Tutorial 5 (Budgeting)

1. Explain how both small and large organizations can benefit from budgeting.

2. Discuss some of the reasons for budgeting.

3. Explain the role of a sales forecast in budgeting. What is the difference between a sales forecast and a sales budget?

7. What is participative budgeting? Discuss some of its advantages.

13. Freshaire, Inc., produces two types of air fresheners: Mint Freshener and Lemon Freshener. Both produces are sold in 32-ounce bottles. Mint sell for $3.00 per bottle, and Lemon sells for $ 3.50 per bottle. Projected sales (in bottles) for the coming four quarters are as follows:

Mint LemonFirst quarter, 2008 80,000 100,000Second quarter, 2008 110,000 100,000Third quarter, 2008 124,000 120,000Fourth quarter. 2008 140,000 140,000First quarter, 2009 90,000 110,000

The vice president of sales believes that the projected sales are realistic and can be achieved by the company.

Requireda) Prepare a sales budget for each quarter of 2008 and for the year in total. Show sales by

product and in total for each time period.b) How will Freshaire, Inc., use this sales budget?

14. Refer to question 13. Freshaire, Inc., next prepared a production budget for each product. Beginning inventory of Mint Freshener on January 1 was 4,000 bottles. The company’s policy is to have 10 percent of the next quarter’s sales of Mint Freshener in ending inventory. Beginning inventory of Lemon Freshener on January 1 was 6,400 bottles. The company’s policy is to have 20 percent of the next quarter’s sales of Lemon Freshener in ending inventory.

Required Prepare a production budget for each product by quarter and in total for the year.

17. Marvel Company provided the following information relating to cash payments.a) Marvel purchased direct materials on account in the following amounts.

June 20,000July 25,000August 30,000

Marvel pays 25 percent of accounts payable in the month of purchase, and the remaining 75 percent in the following month.

b) In July, direct labour cost $40,000. August direct labour cost was $50,000. The company find that typically 90 percent of direct labour cost is paid in cash during the month, with the remainder paid in the following month.

c) August overhead amounted to $70,000, including $5,500 of depreciation.d) Marvel took out a loan of $10,000 on May 1. Interest, due with payment of principal,

accrued at the rate of 12 percent per year. The loan and all interest was repaid on August 31.RequiredPrepare a schedule of cash payments for Marvel Company for the month of August.

21. Briggs Manufacturing produces a subassembly used in the production of jet aircraft engines. The assembly is sold to engine manufacturers and to aircraft maintenance facilities. Projected sales for the coming four months follow:

January 40,000February 50,000March 60,000April 60,000

The following data pertain to production policies and manufacturing specifications followed by Briggs Manufacturing:

a) Finished goods inventory on January 1 is 32,000 units, each costing $148.71. The desired ending inventory for each month is 80 percent of the next month’s sales.

b) The data on materials used are as follows:

Direct Material Per-Unit Usage Cost per PoundMetal 10 lbs. $8Components 6 2

Inventory policy dictates that sufficient materials be on hand at the beginning of the month to produce 50 percent of that month’s estimated sales. This is exactly the amount of material on hand on January 1.

c) The direct labour used per unit of output is four hours. The average direct labour cost per hour is $9.25.

d) Overhead each month is estimated using a flexible budget formula. (Activity is measured in direct labour hours.)

Fixed-Cost Component Variable-Cost ComponentSupplies – $1.00Power – 0.50Maintenance $30,000 0.40

Fixed-Cost Component Variable-Cost ComponentSupervision 16,000 –Depreciation 200,000 –Taxes 12,000 –Other 80,000 1.50

e) Monthly selling and administrative expenses are also estimated using a flexible budgeting formula. (Activity is measured in units sold.)

Fixed Costs Variable CostsSalaries $50,000 –Commissions – $2.00Depreciation 40,000 –Shipping – 1.00Other 20,000 0.60

f) The unit selling price of the subassembly is $215.g) All sales and purchases are for cash shortage by the end of the month, sufficient cash is

borrowed to cover the shortage. Any cash borrowed is repaid at the end of the quarter, as is the interest due. (Cash borrowed at the end of the quarter is repaid at the end of the following quarter.) The interest rate is 12 percent per annum. No money is owed at the beginning of January.

RequiredPrepare a monthly operating budget for the first quarter with the following schedules:

1. Sales budget2. Production budget3. Direct materials purchases budget4. Direct labour budget5. Overhead budget6. Selling and administrative expenses budget7. Ending finished goods inventory budget8. Cost of goods sold budget9. Budgeted income statement (ignore income taxes)10. Cash budget

Solution(1) The planning and control functions of budgeting can benefit all organizations regard- less

of size. All organizations need to determine what their goals are and how best to attain those goals. This is the planning function of budgeting. In addition, organizations can compare what actually happens with what was planned to see if the plans are un- folding

as anticipated. This is the control function of budgeting.

(2) Budgeting forces managers to plan, pro- vides resource information for decision making, sets benchmarks for control and evaluation, and improves the functions of communication and coordination.

(3) The sales forecast is a critical input for building the sales budget. However, it is not necessarily equivalent to the sales budget. Upon receiving the sales forecast, management may decide that the firm can do better than the forecast indicates. Consequently, actions may be taken to increase the sales potential for the coming year (e.g., increasing advertising). This adjusted fore- cast then becomes the sales budget.

(4) Participative budgeting is a system of budgeting that allows subordinate managers a say in how the budgets are established. Participative budgeting fosters creativity and communicates a sense of responsibility to subordinate managers. It also creates a higher likelihood of goal congruence since managers have more of a tendency to make the budget’s goals their own personal goals.

(5)

1. Freshaire, Inc. Sales Budget

For the Year 2008

Mint:

1 st Qtr. 2 nd Qtr. 3 rd Qtr. 4 th Qtr. Total Units 80,000 110,000 124,000 140,000 454,000 Price

$3.00 $3.00

$3.00

$3.00

$3.00 Sales $240,000 $330,000 $372,000 $420,000 $ 1,362,000

Lemon:

Units 100,000 100,000 120,000 140,000 460,000 Price

$3.50 $3.50

$3.50

$3.50

$3.50 Sales $350,000 $350,000 $420,000 $490,000 $ 1,610,000

Total sales $590,000 $680,000 $792,000 $910,000 $ 2,972,000

2. Freshaire, Inc., will use the sales budget in planning as the basis for the pro-duction budget and the succeeding budgets of the master budget. At the endof the year, the company can compare actual sales against the budget to seeif expectations were achieved.

(6)

Freshaire, Inc.Production Budget for Mint Freshener

For the Year 2008

1 st Qtr. 2 nd Qtr. 3 rd Qtr. 4 th Qtr. Total Sales 80,000 110,000 124,000 140,000 454,000Des. ending inventory 11,000 12,400 14,000 9,000 9,000 Total needs 91,000 122,400 138,000 149,000 463,000Less: Beginning inventory 4,000 11,000 12,400 14,000 4,000

Units produced 87,000 111,400 125,600 135,000 459,000

Freshaire, Inc.Production Budget for Lemon Freshener

For the Year 2008

1 st Qtr. 2 nd Qtr. 3 rd Qtr. 4 th Qtr. Total Sales 100,000 100,000 120,000 140,000 460,000Des. ending inventory 20,000 24,000 28,000 22,000 22,000 Total needs 120,000 124,000 148,000 162,000 482,000Less: Beginning inventory 6,400 20,000 24,000 28,000 6,400

Units produced 113,600 104,000 124,000 134,000 475,600

.

(7)

MarvelI agree with comment CompanySchedule of Cash Payments for August

Payments on accounts payable:From July purchases (0.75 x $25,000) $ 18,750From August purchases (0.25 x $30,000) 7,500Direct labor payments:From July (0.10 x $40,000) 4,000From August (0.90 x $50,000) 45,000Overhead ($70,000 - $5,500) 64,500Loan repayment [$10,000 + ($10,000 x 0.12 x 4/12)] 10,400 Cash payments $150,150

.

(8)Briggs Manufacturing

For the Quarter Ended March 31, 20XX

1. Schedule 1: Sales Budget

January February March Total Units 40,000 50,000 60,000 150,000Selling price

$215 $215 $215 $215

Sales $8,600,000 $10,750,000 $12,900,000 $32,250,000

2. Schedule 2: Production Budget

January February March Total

Sales (Schedule 1) 40,000 50,000 60,000 150,000Desired ending inventory 40,000 48,000 48,000 48,000 Total needs 80,000 98,000 108,000 198,000Less: Beginning inventory 32,000 40,000 48,000 32,000 Units to be produced 48,000 58,000 60,000 166,000

3. Schedule 3: Direct Materials Purchases Budget

January February Metal Components Metal Components

Units to be produced(Schedule 2) 48,000 48,000 58,000 58,000Direct materialsper unit (lbs.) 10 6 10 6 Production needs 480,000 288,000 580,000 348,000Desired endinginventory 250,000 150,000 300,000 180,000 Total needs 730,000 438,000 880,000 528,000Less: Beginninginventory 200,000 120,000 250,000 150,000 Direct materials tobe purchased 530,000 318,000 630,000 378,000Cost per pound $8 $2 $8 $2 Total cost $4,240,000 $636,000 $5,040,000 $756,000

Units to be produced

March Total Metal Components Metal Components

(Schedule 2) 60,000 60,000 166,000 166,000Direct materialsper unit (lbs.) 10 6 10 6 Production needs 600,000 360,000 1,660,000 996,000Desired endinginventory 300,000 180,000 300,000 180,000 Total needs 900,000 540,000 1,960,000 1,176,000Less: Beginninginventory 300,000 180,000 200,000 120,000 Direct materials tobe purchased 600,000 360,000 1,760,000 1,056,000Cost per pound $8 $2 $8 $2 Total cost $4,800,000 $720,000 $14,080,000 $2,112,000

4. Schedule 4: Direct Labor Budget

January February March Total Units to be produced(Schedule 2) 48,000 58,000 60,000 166,000Direct labor timeper unit (hours) 4 4 4 4 Total hours needed 192,000 232,000 240,000 664,000Cost per hour

$9.25 $9.25

$9.25

$9.25 Total cost $1,776,000 $2,146,000 $2,220,000 $6,142,000

5. Schedule 5: Overhead Budget

January February March Total Budgeted direct laborhours (Schedule 4) 192,000 232,000 240,000 664,000Variable overhead rate

$3.40 $3.40

$3.40

$3.40 Budgeted variable overhead $652,800 $ 788,800 $ 816,000 $2,257,600

Budgeted fixed overhead 338,000 338,000 338,000 1,014,000 Total overhead $990,800 $1,126,800 $1,154,000 $3,271,600

6. Schedule 6: Selling and Administrative Expenses Budget

January February March Total Planned sales (Schedule 1) 40,000 50,000 60,000 150,000Variable selling and

administrative expensesper unit $3.60 $3.60 $3.60 $3.60

Total variable expense $144,000 $180,000 $216,000 $540,000Fixed selling and

administrative expenses:Salaries $ 50,000 $ 50,000 $ 50,000 $150,000Depreciation 40,000 40,000 40,000 120,000Other 20,000 20,000 20,000 60,000

Total fixed expenses $110,000 $110,000 $110,000 $330,000Total selling andadministrative expenses $254,000 $290,000 $326,000 $870,000

7. Schedule 7: Ending Finished Goods Inventory Budget

Unit cost computation:Direct materials: Metal (10 @ $8) = $80

Comp. (6 @ $2) = 12 $ 92.00Direct labor (4 $9.25) 37.00Overhead:Variable (4 @ $3.40) 13.60Fixed (4 $1,014,000/664,000) 6.11 Total unit cost $148.71

ending balance $1,321,200 2,952,400Borrowed/(repaid)

Interest paid — —

Finished goods inventory = Units Unit cost= 48,000 $148.71= $7,138,080

8. Schedule 8: Cost of Goods Sold Budget

Direct materials used (Schedule 3)Metal (1,660,000 $8) $13,280,000Components (996,000 $2) 1,992,000 $15,272,000

Direct labor used (Schedule 4) 6,142,000Overhead (Schedule 5) 3,271,600

Budgeted manufacturing costs $24,685,600Add: Beginning finished goods (32,000 $148.71) 4,758,720 Goods available for sale $29,444,320Less: Ending finished goods (Schedule 7) 7,138,080 Budgeted cost of goods sold $22,306,240

9. Schedule 9: Budgeted Income Statement

Sales (Schedule 1) $ 32,250,000Less: Cost of goods sold (Schedule 8) 22,306,240 Gross margin $ 9,943,760Less: Selling and admin. expenses (Schedule 6) 870,000

Income before income taxes $ 9,073,760

10. Schedule 10: Cash Budget

January February March Total Beg. balance $ 378,000 $ 1,321,200 $ 2,952,400 $ 378,000Cash receipts 8,600,000 10,750,000 12,900,000 32,250,000 Cash available $8,978,000 $12,017,200 $15,852,400 $32,628,000Less:

Disbursements:Purchases $4,876,000 $5,796.000 $ 5,520,000 $16,192,000Direct labor 1,776,000 2,146,000 2,220,000 6,142,000Overhead 790,800 926,800 954,000 2,671,600Selling & admin. 214,000 250,000 286,000 750,000 Total $7,656,800 $9,118.800 $ 8,980,000 $25,755,600

Tentative$ 6,872,400 $6,872,400

Ending balance $1,321,200 $ 2,952,400 $ 6,872,400 $ 6,872,400

*(0.12 2/12 $56,800) + (0.12 1/12 $6,800)

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