8-1

Budgeting Budgeting for Planning for Planning and Controland Control

Prepared by Douglas Cloud

Pepperdine University

Prepared by Douglas Cloud

Pepperdine University

8-2

1. Define budgeting, and discuss its role in planning, controlling, and decision making.

2. Prepare the operating budget, identify its major components, and explain the interrelationships of the various components.

3. Identify the components of the financial budget, and prepare a cash budget.

4. Describe the budgets for merchandise and service firms.

ObjectivesObjectivesObjectivesObjectives

After studying this After studying this chapter, you should chapter, you should

be able to:be able to:

After studying this After studying this chapter, you should chapter, you should

be able to:be able to:

8-3

The Master Budget and Its

Interrelationships

F e edba ck

Strategic PlanStrategic Plan

Planning:Planning:

Control:Control:

Compare actual results Compare actual results with planned amountswith planned amounts

Short-Term Short-Term ObjectivesObjectives

BudgetsBudgets

Production, Production, Service, and SalesService, and Sales

OperationsOperations

Long-Term Long-Term ObjectivesObjectives

8-4

Purposes of BudgetingPurposes of BudgetingPurposes of BudgetingPurposes of Budgeting

1. It forces managers to plan.

2. It provides resource information that can be used to improve decision making.

3. It provides a standard for performance evaluation.

4. It improves communication and coordination.

8-5

Two Dimensions of BudgetingTwo Dimensions of BudgetingTwo Dimensions of BudgetingTwo Dimensions of Budgeting

1. How is the budget prepared?

2. How is the budget used to implement the organization’s plan?

8-6

Preparing the Operating BudgetPreparing the Operating BudgetPreparing the Operating BudgetPreparing the Operating Budget1. Sales budget2. Production budget3. Direct materials purchases budget4. Direct labor budget5. Overhead budget6. Ending finished goods inventory budget7. Cost of goods sold budget8. Marketing expense budget9. Research and development budget10. Administrative expense budget11. Budgeted income statement

8-7

The sales forecast is the basis for the sales budget. The accuracy of the sales forecast strongly affects the

soundness of the entire master budget.

Schedule 1 (in thousands)Schedule 1 (in thousands)ABT, Inc.ABT, Inc.

Sales BudgetSales BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

QuarterQuarter 1 2 3 4 Year1 2 3 4 YearUnits 2,000 6,000 6,000 2,000 16,000

Unit selling price x $0.70 x $0.70 x $0.80 x $0.80 x $0.75

Sales $ 1,400 $ 4,200 $ 4,800 $ 1,600 $12,000

8-8

Computing Units to be Produced

Units to be produced = Expected unit sales + Units, ending inventory – Units, beginning inventory

8-9

Schedule 2 (in thousands)Schedule 2 (in thousands)ABT, Inc.ABT, Inc.

Production BudgetProduction BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Quarter 1 2 3 4 Year

Sales (Schedule 1) 2,000 6,000 6,000 2,000 16,000

Desired ending inventory 500 500 100 100 100

Total needs 2,500 6,500 6,100 2,100 16,100

Less: Beginning inventory 100 500 500 100 100

Units to be produced 2,400 6,000 5,600 2,000 16,000

8-10

Schedule 3 (in thousands)Schedule 3 (in thousands)ABT, Inc.ABT, Inc.

Direct Materials Purchases BudgetDirect Materials Purchases BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Quarter 1 2 3 4 Year

Units to be produced(Schedule 2) 2,400 6,000 5,600 2,000 16,000Direct materials per

unit (lbs.) x 26 x 26 x 26 x 26 x 26 Production needs 62,400 156,000 145,600 52,000 416,000Desired ending

inventory (lbs.) 8,000 8,000 5,000 5,000 5,000 Total needs 70,400 164,000 150,600 57,000 421,000

ContinuedContinuedContinuedContinued

8-11

Quarter 1 2 3 4 Year

Total needs 70,400 164,000 150,600 57,000 421,000Less beginninginventory 5,000 8,000 8,000 5,000 5,000

Direct materials tobe purchased (lbs.) 65,400 156,000 142,600 52,000 416,000

Cost per pound x $0.01 x $0.01 x $0.01 x $0.01 x $0.01Total purchase cost $ 654 $ 1,560 $ 1,426 $ 520 $ 4,160

8-12

Quarter 1 2 3 4 YearUnits to be produced

(Schedule 2) 2,400 6,000 5,600 2,000 16,000Direct labor time

per unit (hrs.) x 0.015 x 0.015 x 0.015 x 0.015 x 0.015Total hours needed 36 90 84 30 240Wage per hour x $8 x $8 x $8 x $8 x $8Total direct labor

cost $ 288 $ 720 $ 672 $ 240 $ 1,920

Schedule 4 (in thousands)Schedule 4 (in thousands)ABT, Inc.ABT, Inc.

Direct Labor BudgetDirect Labor BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

8-13

Schedule 5 (in thousands)Schedule 5 (in thousands)ABT, Inc.ABT, Inc.

Overhead BudgetOverhead BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Quarter 1 2 3 4 Year

Budgeted direct laborhours (Schedule 4) 36 90 84 30 240

Variable overheadrate x $8 x $8 x $8 x $8 x $8

Budgeted variableoverhead $288 $ 720 $672 $240 $1,920

Budgeted fixedoverhead 320 320 320 320 1,280

Total overhead $608 $1,040 $992 $560 $3,200

8-14

Schedule 6 (in thousands)Schedule 6 (in thousands)ABT, Inc.ABT, Inc.

Ending Finished Goods Inventory BudgetEnding Finished Goods Inventory BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Unit-cost computation:

Direct materials (26 lbs. @ $0.01) $0.26

Direct labor (0.015 hr. @ $8) 0.12

Overhead:

Variable (0.015 hr. @ $8) 0.12

Fixed (0.015 hr. @ $5.33) 0.08

Total unit cost $0.58

Units Unit Cost Total

Finished goods: Concrete blocks 100 $0.58 $58

8-15

Schedule 7 (in thousands)Schedule 7 (in thousands)ABT, Inc.ABT, Inc.

Cost of Goods Sold BudgetCost of Goods Sold BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Direct materials used (Schedule 3)

$4,160

Direct labor used (Schedule 4)

1,920

Overhead (Schedule 5)

3,200

Budgeted manufacturing costs

$9,280

Beginning finished goods

55

Goods available for sale

$9,335

Less: Ending finished goods (Schedule 6)

58

Budgeted cost of goods sold

$9,277

8-16

Schedule 8 (in thousands)Schedule 8 (in thousands)ABT, Inc.ABT, Inc.

Marketing Expense BudgetMarketing Expense BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Quarter 1 2 3 4 Year

Planned sales in units(Schedule 1) 2,000 6,000 6,000 2,000 16,000

Variable marketing expenses per unit x$0.05 x$0.05 x$0.05 x$0.05 x$0.05Total variable

expenses $ 100 $ 300 $ 300 $ 100 $ 800

ContinuedContinued

8-17

Fixed marketingexpenses:Salaries $ 10 $ 10 $ 10 $ 10 $ 40Advertising 10 10 10 10 40Depreciation 5 5 5 5 20Travel 3 3 3 3 12Total fixed expenses $ 28 $ 28 $ 28 $ 28 $112

Total marketingexpenses $128 $328 $328 $128 $912

Quarter 1 2 3 4 Year

8-18

Schedule 9 (in thousands)Schedule 9 (in thousands)ABT, Inc.ABT, Inc.

Research and Development Expenses BudgetResearch and Development Expenses BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Quarter 1 2 3 4 Year

Sales $18 $18 $18 $18 $ 72Prototype design and development 10 10 10 10 40

Total R & Dexpenses $28 $28 $28 $28 $112

8-19

Schedule 10 (in thousands)Schedule 10 (in thousands)ABT, Inc.ABT, Inc.

Administrative Expense BudgetAdministrative Expense BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

Quarter 1 2 3 4 Year

Salaries $25 $25 $25 $25 $100Insurance --- --- 15 --- 15Depreciation 10 10 10 10 40Travel 2 2 2 2 8

Total administrativeexpenses $37 $37 $52 $37 $163

8-20

Sales (Schedule 1)$12,000Less: Cost of goods sold (Schedule 7) 9,277

Gross margin$ 2,723Less: Marketing expenses (Schedule 8)-912

R & D expenses (Schedule 9)-112

Administrative expenses (Schedule 10) -163

Operating income$ 1,536Less: Interest expense (Schedule 12) 42

Income before taxes$ 1,494Less: Income taxes 600

Net income $ 894

Schedule 11 (in thousands)Schedule 11 (in thousands)ABT, Inc.ABT, Inc.

Cost of Goods Sold BudgetCost of Goods Sold BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

8-21

Sales (Schedule 1)$12,000

Less: Cost of goods sold (Schedule 7) 9,277

Gross margin$ 2,723

Less: Marketing expenses (Schedule 8)-912

R & D expenses (Schedule 9)-112

Administrative expenses (Schedule 10) -163

Operating income$ 1,536

Less: Interest expense (Schedule 12) 42

Income before taxes$ 1,494

Less: Income taxes 600Net income$ 894

Schedule 11 (in thousands)Schedule 11 (in thousands)ABT, Inc.ABT, Inc.

Cost of Goods Sold BudgetCost of Goods Sold BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

8-22

The Financial BudgetsThe Financial BudgetsThe Financial BudgetsThe Financial Budgets

The usual financial budgets prepared are:

The cash budget

The budgeted balance sheet

The budgeted statement of cash flows

The budget for capital expenditures

8-23

The Cash BudgetThe Cash BudgetBeginning cash balance

+ Cash receipts

Cash available

- Cash disbursements

- Minimum cash balance

Excess or deficiency of cash

- Repayments

+ Loans

+ Minimum cash balance

Ending cash balance

8-24

Quarter1 2 3 4 Year

Beginning cash balance $ 120 $ 113 $ 152 $1,334 $ 120Cash collections 1,490 3,780 4,710 2,080 12,060Total cash available $1,610 $3,893 $4,862 $3,414 $12,180

Total disbursements $2,097 $3,317 $3,310 $2,079 $10,803Minimum cash balance 100 100 100 100 100Total cash needs $2,197 $3,417 $3,410 $2,179 $10,903

Excess (deficiency) of cash -$ 587 $ 476 $1,452 $1,235 $ 1,277Add: Borrowings 600 --- --- --- 600Less: Repayments --- 400 200 --- 600Less: Interest paid --- 24 18 --- 42Ending cash balance $ 13 $ 52 $1,234 $1,235 $ 1,235Plus: Minimum cash balance 100 100 100 100 100Ending cash balance $ 113 $ 152 $1,334 $1,335 $ 1,335

Schedule 12 (in thousands)Schedule 12 (in thousands)ABT, Inc.ABT, Inc.

Cash BudgetCash BudgetFor the Year Ended December 31, 2004For the Year Ended December 31, 2004

8-25

ABT, Inc.ABT, Inc.Schedule of Cash Receipts (in thousands)Schedule of Cash Receipts (in thousands)

Source Quarter 1 Quarter 2 Quarter 3 Quarter 4Source Quarter 1 Quarter 2 Quarter 3 Quarter 4

Cash sales $ 700 $2,100 $2,400 $ 800

Received onaccount from sales in:Quarter 4, 2003 300

Quarter 1, 2004 490 210

Quarter 2, 2004 1,470 630

Quarter 3, 2004 1,680 720

Quarter 4, 2004 560

Total cash receipts $1,490 $3,780 $4,710 $2,080

8-26

ABT, Inc.ABT, Inc.Balance Sheet (in thousands)Balance Sheet (in thousands)

December 31, 2003December 31, 2003

AssetsCurrent assets:

Cash $ 120Accounts receivable 300Material inventory 50Finished goods inventory 55

Total current assets $ 525Property, plant, and equipment:

Land $2,500Building and equipment 9,000Accumulated depreciation -4,500

Total property, plant, and equipment 7,000Total assets $7,525

ContinuedContinuedContinuedContinued

Note that this is the Note that this is the actuaactual balance sheet l balance sheet

for 2003for 2003

Note that this is the Note that this is the actuaactual balance sheet l balance sheet

for 2003for 2003

8-27

Liabilities and Stockholders’ EquityCurrent liabilities:

Accounts payable $ 100Stockholders’ equity:

Common stock, no par $ 600Retained earnings 6,825

Total stockholders’ equity 7,425Total liabilities and stockholders’ equity $7,525

8-28

Schedule 13 (in thousands)Schedule 13 (in thousands)ABT, Inc.ABT, Inc.

Budgeted Balance Sheet Budgeted Balance Sheet December 31, 2004December 31, 2004

AssetsCurrent assets:

Cash $1,335Accounts receivable 240Material inventory 50Finished goods inventory 58

Total current assets $1,683Property, plant, and equipment:

Land $2,500Building and equipment 9,600Accumulated depreciation -5,360

Total property, plant, and equipment 6,740Total assets $8,423

ContinuedContinuedContinuedContinued

8-29

Liabilities and Stockholders’ EquityCurrent liabilities:

Accounts payable $ 104Stockholders’ equity:

Common stock, no par $ 600Retained earnings 7,719

Total stockholders’ equity 8,319Total liabilities and stockholders’ equity $8,423

8-30

ChapteChapterr

End ofEnd of

8-31