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Budgetary Planning and Control

Chapter Ten

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Expense Budget

An expense budget states the acceptable limits for costs the manager may incur in accomplishing assigned tasks.

The two general ways to develop budget allowances for expenses are:

Static budget

Flexible budget

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Flexible Budget Fixed Amount Variable Amount

per

Cost per Month Direct Labor Hour

Indirect labor $2,400 $0.40

Supplies 200 0.40

Maintenance 1,600 0.20

Depreciation 1,200 0.00

Miscellaneous 700 0.10

Total $6,100 $1.10

The Company is expecting to work 1,000 direct labor hours for the month, but does work 1,300.

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Flexible Budget Performance Report

Budget for Budget for Variance

Budgeted ActualActual Costs Favorable

Hours Hours Incurred (Unfavorable)

Direct labor hours1,000 1,300

Indirect labor $2,800 $2,920 $2,870 $50

Supplies 600 720 705 15

Maintenance 1,800 1,860 1,900 (40)

Depreciation 1,200 1,200 1,200 0

Miscellaneous 800 830 840 (10)

Total $7,200 $7,530 $7,515 $15

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KEY CONCEPT

Budgets must be adjusted to reflect the costs that should have been incurred given the actual level of activity before performance evaluation can take place

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Master Budget

A master budget is a set of financial statements and other schedules

showing the expected, or pro

forma, results for a future period.

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Master Budget A set of interrelated budgets that allows for

planning and control throughout the organization

Driven by the sales forecast Includes sales budget, production budget, labor

and overhead budgets, purchases budget, collections budget, capital spending budget, cash budget, and pro forma balance sheet and income statements

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Budgets for

purchases and

production

Assumptions about

levels of inventory,

collections of

receivables, and

payments of expenses

and liabilities

Plans for long-term

financing and for

capital spending

Assumptions

about cost

behavior

Balance sheet

at beginning of

budget period Budgets for cash

and requirements for

short-term financing

Pro forma

balance sheet

Pro forma

income

statement

Sales Forecast

+

+

+

+

Master Budget

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20020055

Organization of BudgetsContinuous budgets are maintained by adding a budget for a month (or quarter) as one of these periods goes by. Thus, a 12-month budget exists at all times.

Project budgets reflect expectations for various stages

of completing specific projects.

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Your sales will be...

Methods Used to Forecast Sales

Indicator methods

Historical analysis

Judgmental methods

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Interim Period ForecastsThree types of sales forecasts

1. Annual forecasts

2. Longer-term forecasts (3 to 5 years)

3. Quarterly or monthly forecasts

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Budget ExampleSales budgets by month:

January $400

February 500

March 800

April 700

May 600

Cost of goods sold will be 60 percent of sales dollars.

Inventory should be 40% of next month’s cost of sales

Total fixed costs will be $150, of which $15 per month is depreciation expense.

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Lag InformationOther data:

Home effects collects 70% of its sales in the month of sales, 30% in the following month.

Home effects pays for purchases 60% in the month of purchase, 40% in the following month.

Home effects pays all other expenses requiring cash disbursements as incurred.

Home effects tries to keep at least $50 cash as a buffer against unexpected cash needs.

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Home Effects Balance Sheet December 31, 2003

Assets: Liabilities:

Cash $80 Accounts payable $195

Accounts receivable 120 Stockholder’s equity1,131

Inventory 96

Fixed assets, net 1,030

Total $1,326 Total $1,326

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Purchases Budget

Three-months JanuaryFebruary MarchTotal

Cost of goods sold $240$300 $480 $1,020

Budgeted ending inventory120 192 168 168

Total requirements 360492 648 1,188

Beginning inventory 96120 192 96

Purchases 264$372 $456 $1,092

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Cash Receipts

Jan.Feb. Mar. Total

Sales for the month$400 $500 $800 $1,700

From prior month, 30% $120 $120 $150 $390

From current month, 70% 280 350 560 1,190

Total receipts $400 $470 $710 $1,580

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Cash Disbursements for Purchases Jan. Feb. Mar. Total

From prior month, 40% $195 * $105.6 $148.8 $449.4

From currentmonth, 60% 158.4 223.2 273.6 655.2

Total $353.4 $328.8 $384 $1104.6

* from beginning of balance sheet

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Cash Disbursements-Total Costs

Jan. Feb. Mar. Total

For merchandise$353.4 $328.8$422.4 $1,104.6

Fixed costsrequiring cash 135 135 135 405

Total $488.4 $463.8 $557.4$1,509.6

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Minimum-Cash-Balance Policies Financial managers devote considerable attention to determining the needed minimum level of cash. As with most decisions, a trade-off between two conflicting factors is involved. A small minimum balance would lead to a higher probability of running out of cash, while too large a minimum balance would lead to little or no return.

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Cash Budget Jan. Feb. Mar. Total

Beginning balance $80 $50.6 $50.68 $80

Cash receipts 400 470 710 1,770

Total available $480 $520.6 $760.68 $1,850

Cash disbursements 488.4 463.8 557.4 1509.6

Indicated balance (8.4) 56.8 203.28 203.28

Excess (deficiency 58.4 6.8 153.28 153.28

Borrow 59 59

Interest(at 12%) .12 1.59 1.71

Repay 6 53 59

Ending balance $50.6 $50.68 $98.69 $98.69

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Budgeted Income Statement Jan. Feb. March Total

Sales $400 $500 $800 $1,700

Cost of goods sold 240 300 480 1,020

Gross profit and contribution margin$160 $200 $320 $680

Fixed costs 150 150 150 450

Income before interest$10 $50 $170 $230

Interest 0.59 0.59 0.53 1.71

Net Income 9.41 49.41 169.47 228.29

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Ending Balance SheetAssets: Liabilities:

Cash $148.69 Accounts payable $182.4

Accounts receivable 240 Stockholder’s EQ1,359.29

Inventory 168

Fixed assets, net 985

Total $1541.69 Total $1,541.69