Week 11:Budgeting

Nature and Objectives of BudgetingBudgets play an important role for organizations of all sizes and forms. E.g. government agencies, churches, hospitals, small businesses, and manufacturing companies.Budgeting involves:(1) establishing specific goals(2) executing plans to achieve the goals (3) periodically comparing actual results with the goals.

LO 1

Objectives of BudgetingBudgeting affects the following managerial functions:Planning, which involves setting goals to guide decisions and help motivate employees.Directing, which involves decisions and actions to achieve budgeted goals.Controlling, which involves comparing actual performance against the budgeted goals.

LO 1

Objectives of BudgetingA budgetary unit of a company is called a responsibility center.Each responsibility center is led by a manager who has the authority and responsibility for achieving the centers budgeted goals.LO 1

As time passes, the actual performance of a responsibility center can be compared against the budgeted goals. This provides prompt feedback to managers and employees about their performance.If necessary, responsibility centers can use such feedback to adjust their activities in the future.

LO 1Objectives of Budgeting

Human Behavior and BudgetingHuman behavior problems can arise in the budgeting process in the following situations:The budgeted goals are set too tight, which are very hard or impossible to achieve.This may have a negative effect on the companyachieving its goals.LO 1

Human Behavior and BudgetingThe budgeted goals are set too loose, which are very easy to achieve.Budget padding iscalled budgetary slack. LO 1Human behavior problems can arise in the budgeting process in the following situations:

Human Behavior and BudgetingThe budgeted goals conflict with the objectivesof the company and employees.Goal conflict occurs whenemployees or managers self-interest differs from thecompanys goals.

LO 1Human behavior problems can arise in the budgeting process in the following situations:

Budgeting SystemsThe budgetary period for operating activities normally includes the fiscal year of a company.A variation of fiscal-year budgeting, called continuous budgeting, maintains a 12-month projection into the future.LO 2Zero-based budgeting requires managers to estimate sales, production, and other operating data as though operations are being started for the first time.

A static budget shows the expected results of a responsibility center for only one activity level. The budget does not change even if the activity changes.A static budget is used by many service companies and for some administrative functions of manufacturing companies.

Static BudgetLO 2Disadvantage: do not adjust for changes in revenues and expenses that occur as volumes change.

Flexible BudgetFlexible budgets show the expected results of a responsibility center for several activity levels. A flexible budget is, in effect, a series of static budgets for different levels of activity.LO 2

Flexible BudgetLO 2If Colter Manufacturing Companys Assembly Department spent $70,800 to produce 10,000 units, how much over or under budget would the department manager be when using a flexible budget?

An integrated set of operating, investing, and financing budgets for a period of time.Master BudgetLO 3

Master BudgetLO 3Operating BudgetsSales 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 budgetBudgeted Income StatementBudgeted Balance SheetFor a manufacturing company, the master budget consists of the following integrated budgets:

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

LO 4

Sales BudgetsThe prior years sales quantities are revised for such factors as the following:Backlog of unfilled sales ordersPlanned advertising and promotionProductive capacityProjected pricing changesFindings of market research studiesExpected industry and general economic conditions

LO 4

Sales BudgetsLO 4Elite Accessories Inc. manufactures wallets and handbags that are sold in two regions, the East and West regions. Elite Accessories estimates the following sales quantities and prices for 2012.

Production BudgetLO 4Estimates the number of units to be manufactured to meet budgeted sales and desired inventory levels.

SalesBudgetProduction BudgetLO 4

Direct Materials Purchases BudgetEstimates the quantities of direct materials to be purchased to support the budgeted production and desired inventory levels.LO 4

Direct MaterialsPurchases BudgetMaterials needed for production +Desired ending materials inventory Estimated beginning materials inventoryDirect materials to be purchased SalesBudgetDirect Materials Purchases BudgetLO 4

Direct Labor Cost BudgetLO 4Direct LaborCost BudgetEstimates the direct labor hours and related cost needed to support budgeted production. SalesBudgetDirect MaterialsPurchases Budget

Factory Overhead Cost BudgetLO 4Estimates the cost for each item of factory overhead needed to support budgeted production. SalesBudgetDirect LaborCost BudgetDirect MaterialsPurchases BudgetFactory OverheadCost Budget

Cost of Goods Sold BudgetPrepared by integrating the following budgets:Direct materials purchases budgetDirect labor cost budgetFactory overhead cost budgetLO 4

Cost of Goods Sold BudgetLO 4 Cost of GoodsSold BudgetDirect MaterialsPurchases BudgetDirect LaborCost BudgetFactory OverheadCost Budget SalesBudget

Selling and Administrative Expenses BudgetNormally supported by departmental schedules. The sales budget is often used as the starting point for this budget.LO 4

Direct MaterialsPurchases BudgetDirect LaborCost BudgetFactory OverheadCost Budget Selling & AdministrativeExpensesBudget SalesBudgetSelling and Administrative Expenses BudgetLO 4

Budgeted Income StatementPrepared by integrating the following budgets:Sales budgetCost of goods sold budgetSelling and administrative expenses budgetLO 4

Learning Objective 5Describe budgeting, its objectives, and its impact on human behavior.Describe the basic elements of the budget process, the two major types of budgeting, and the use of computers in budgeting.Describe the master budget for a manufacturing company.Prepare the basic income statement budgets for a manufacturing company.Prepare balance sheet budgets for a manufacturing company.

Cash BudgetEstimates the expected receipts (inflows) and payments (outflows) of cash for a period of time.

LO 5

LO 5Estimated Cash ReceiptsReceipts from cash sales:Cash sales (10% x current months salesNote A). $108,000$124,000$ 97,000JanuaryFebruaryMarchNote A: $108,000 = $1,080,000 x 10%$124,000 = $1,240,000 x 10%$ 97,000 = $ 970,000 x 10%

LO 5Estimated Cash ReceiptsReceipts from cash sales:Cash sales (10% x current months salesNote A).$108,000$124,000$ 97,000JanuaryFebruaryMarchReceipts from sales on account:Collections from prior monthssales (40% of previous monthscredit salesNote B)..$370,000$388,800$446,400Note B: $370,000, given as Jan. 1, 2012, Accts. Rec. balance$388,800 = $1,080,000 x 90% x 40%$446,400 = $1,240,000 x 90% x 40%

LO 5Estimated Cash ReceiptsReceipts from cash sales:Cash sales (10% x current months salesNote A).$108,000$124,000$ 97,000JanuaryFebruaryMarchReceipts from sales on account:Collections from prior monthssales (40% of previous monthscredit salesNote B)..$370,000$388,800$446,400Collections from current months sales (60% of current monthscredit salesNote 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 PaymentsTo estimate cash payments for manufacturing costs, a schedule of payments for manufacturing costs is prepared.LO 5

Estimated Cash PaymentsLO 5 JanuaryFebruaryMarchNote A: $190,000, given as January 1, 2012, Accounts Payable balance$204,000 = ($840,000 $24,000) x 25%$189,000 = ($780,000 $24,000) x 25%Payments of prior months manu- facturing costs {[25% x previousmonths manufacturing costs(less depreciation)]Note A}..$190,000$204,000$189,000From Exhibit 17

Estimated Cash PaymentsLO 5Payments of prior months manu- facturing costs {[25% x previousmonths manufacturing costs(less depreciation)]Note A}..$190,000$204,000$189,000 JanuaryFebruaryMarchPayments of current months manufacturing costs {[75% x current months manufacturingcosts (less depreciation)]Note B}. $612,000$567,000$591,000Note 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%

Capital Expenditures BudgetSummarizes plans for acquiring fixed assets. Such expenditures are necessary as machinery and other fixed assets wear out or become obsolete.In addition, purchasing additional fixed assets may be necessary to meet increasing demand for the companys product.

LO 5

Budgeted Balance SheetPrepared based on the operating, financing, and investing budgets of the master budget. It is similar to a normal balance sheet except that estimated amounts are used.

LO 5