23-1

CHAPTER 23CHAPTER 23

BUDGETING FORPLANNING AND CONTROL

23-2

BudgetBudget Webster’s definition ... Text def. (p. 827): A planplan showing the

company’s objectives and how management intends to acquire and use resources to attain those objectives.

A plan, while necessary, isinsufficient by itself; controlcontrol is also needed to insure that plans are accomplished.

23-3

Budgets enable organizations to better deal with the uncertainty of the future.

Without planning, organizations only react to future events rather than anticipating them.

Why Budget?Why Budget?

23-4

Purposes of BudgetsPurposes of Budgets

Purposes

Express management’s

plans forcoming periods

Increasemotivation to

achievestated goals

Formalize in writing management’splans in quantitative terms

Cause managers to think ahead,anticipate results and act to

correct poor results

23-5

Benefits of BudgetsBenefits of Budgets

Develops a morevisionary management

Facilitates review and revision of plans

Fosters coordinationof activities

Produces more cost-conscious employees

Promotes managementby exception

Communicatesplans

Benefits

23-6

Considerations inConsiderations inPreparing a BudgetPreparing a Budget

Management's assumptions re: State of the economy for the

planning period Adding, deleting or

changing product lines Nature and degree of competition Effects of government regulation

Useful accounting data from past periods can be adjusted for future expectations.

23-7

Coordination of financial and nonfinancial planning

Top management support Employee participation in

goal setting Communicating results Flexibility Follow-up

General Principles of General Principles of Good BudgetingGood Budgeting

23-8

Hazards of imposed budgets Employee resistance to perceived unfair

or unrealistic goals Does not facilitate free flow of

management-employee communications Participatory budgeting

All levels of management actively participate in the process

Accountant’s role Should compilecompile the information and

coordinatecoordinate the preparation of the budget

Behavioral Implications of Behavioral Implications of BudgetingBudgeting

23-9

Participatory Budget SystemParticipatory Budget System

Flow of Budget Data

S upervisor S upervisor

M iddleM anagem ent

S upervisor S upervisor

M iddleM anagem ent

T op Managem ent

23-10

Sets specific targets for Sales revenue Production costs Selling and administrative expenses Cash receipts and disbursements

Culminates in projected financial statements Projected Balance Sheet

• A/K/A Financial Budget• A/K/A Pro Forma Balance Sheet

Projected Income Statement• A/K/A Planned Operating Budget• A/K/A Pro Forma Income Statement

Master BudgetMaster Budget

23-11

Using an electronic spreadsheet to prepare is ideal because of Considering “what if” scenarios Interlocking relationships between

the various elements of the budget Which is prepared first?

Projected Income Statement Projected Balance Sheet

Master BudgetMaster Budget

23-12

Using an electronic spreadsheet to prepare is ideal because of Considering “what if” scenarios Interlocking relationships between

the various elements of the budget Which is prepared first?

Projected Income Statement Projected Balance Sheet

a.b.

Master BudgetMaster Budget

Trivia time! What was the first electronic spreadsheet?

23-13

Master BudgetMaster Budget

DetailBudget

Cash

DetailBudget

Oth

erexp

enses

DetailBudget

Sellin

g an

dad

min

istrativeexp

enses

DetailBudget

Pro

du

ction

costs

ProjectedIncome Statement

andBalance Sheet

DetailBudget

Sales

(Prepared first)(Prepared first)

23-14

Sales BudgetSales Budget

Detailed schedule showing expected sales for the coming periods

expressed in units and dollars.

23-15

All items in the budgeting process are dependent on a sales forecast.

All items in the budgeting process are dependent on a sales forecast.

SalesForecas

t

Compilation of forecasts from sales staff

Economicmodels

Managementintuition

Statisticalforecasts

Sales BudgetSales Budget

Informal approachFormal approach

23-16

That’s enough talkingabout budgets, now

show me some examples!

BudgetsBudgets

23-17

Ellis Magnet Co. is preparing budgets for the quarter ending June 30. The sales price is $10 per magnet.

Budgeted sales for the next four months are:

April 20,000 magnets @ $10 = $200,000May 50,000 magnets @ $10 = $500,000June 30,000 magnets @ $10 = $300,000July 25,000 magnets @ $10 = $250,000

The Sales Budget

July is needed for June ending inventory computations.

Sales BudgetSales Budget

23-18

Production BudgetProduction Budget

ProductionBudget

Sales Budget

Complete

d

23-19

Production BudgetProduction Budget Two ApproachesTwo Approaches

Based on sales estimates and level production each period Ending inventory level is a residual

and fluctuates e.g., ILL. 23.2 (p. 833) A/K/A Sales and Production Budget

Based on sales estimates and desired ending inventory level Production quantity is a

residual and fluctuates e.g., Bottom p. 833

23-20

Production BudgetProduction Budget

Ellis wants ending inventoryto be 20 percent of the next month’s

budgeted sales in units.

4,000 units were on hand March 31.

Let’s prepare the production budget using the

second approach.

23-21

Production BudgetProduction Budget

Production must be adequate to meet budgeted sales and to provide sufficient

ending inventory.

Production must be adequate to meet budgeted sales and to provide sufficient

ending inventory.

Budgeted product sales in units

+ Desired product units in ending inventory

= Total product units needed

– Product units in beginning inventory

= Product units to produce

23-22

Production BudgetProduction Budget

April May JuneBudgeted unit sales 20,000 50,000 30,000Desired ending inventoryTotal units neededLess beginning inventoryUnits to produce

23-23

Production BudgetProduction Budget

April May JuneBudgeted unit sales 20,000 50,000 30,000Desired ending inventory 10,000 6,000 5,000 Total units needed 30,000 56,000 35,000Less beginning inventoryUnits to produce

Ending inventory = 20% of next month's production needsJune ending inventory = .20 × 25,000 July units = 5,000 units

23-24

April May JuneBudgeted unit sales 20,000 50,000 30,000Desired ending inventory 10,000 6,000 5,000 Total units needed 30,000 56,000 35,000Less beginning inventory 4,000 10,000 6,000 Units to produce 26,000 46,000 29,000

Ending inventory = 20% of next month's production needsJune ending inventory = .20 × 25,000 July units = 5,000 unitsBeginning inventory is last month's ending inventory.

Production BudgetProduction Budget

23-25

Production BudgetProduction Budget

ProductionBudgetMaterial

Purchases

Production BudgetUnits

Complete

d

23-26

The material purchases budget is based on production quantity and desired material

inventory levels.

The material purchases budget is based on production quantity and desired material

inventory levels.

Production BudgetProduction BudgetMaterial PurchasesMaterial Purchases

Units to produce × Material needed per unit = Material needed for units to produce+ Desired units of material in ending

inventory= Total units of material needed– Units of material in beginning inventory= Units of material to purchase

23-27

Five pounds of material are needed for each unit produced.

Ellis wants to have materials on hand at the end of each month equal to 10 percent of the following month’s

production needs.

The materials inventory on March 31 is 13,000 pounds. July production is

budgeted for 23,000 units.

Production BudgetProduction BudgetMaterial PurchasesMaterial Purchases

23-28

April May JuneUnits to produce 26,000 46,000 29,000 Pounds per unit 5 5 5 Material needs (lbs.) 130,000 230,000 145,000Desired ending inventoryTotal material needs (lbs.)Less beginning inventoryMaterial purchases (lbs.)

Production BudgetProduction BudgetMaterial PurchasesMaterial Purchases

23-29

April May JuneUnits to produce 26,000 46,000 29,000 Pounds per unit 5 5 5 Material needs (lbs.) 130,000 230,000 145,000Desired ending inventory 23,000 14,500 11,500 Total material needs (lbs.) 153,000 244,500 156,500Less beginning inventoryMaterial purchases (lbs.)

Ending inventory = 10% of next month's material needsJune Ending inventory = .10 × (23,000 units × 5 lbs. per unit)June Ending inventory = 11,500 lbs.

Production BudgetProduction BudgetMaterial PurchasesMaterial Purchases

23-30

April May JuneUnits to produce 26,000 46,000 29,000 Pounds per unit 5 5 5 Material needs (lbs.) 130,000 230,000 145,000Desired ending inventory 23,000 14,500 11,500 Total material needs (lbs.) 153,000 244,500 156,500Less beginning inventory 13,000 23,000 14,500 Material purchases (lbs.) 140,000 221,500 142,000

Ending inventory = 10% of next month's material needsJune Ending inventory = .10 × (23,000 units × 5 lbs. per unit)June Ending inventory = 11,500 lbs.Beginning inventory is last month's ending inventory.

Production BudgetProduction BudgetMaterial PurchasesMaterial Purchases

23-31

Production BudgetProduction Budget

ProductionBudgetLabor

Production BudgetMaterial

Purchases

Complete

d

(Not shown)(Not shown)

23-32

Cash Receipts BudgetCash Receipts Budget

O.K., let’s do acash receipts

budget!

23-33

Cash Receipts BudgetCash Receipts Budget

All sales are on account.

Ellis’ collection pattern is:

70 percent collected in month of sale

25 percent collected in month after sale

5 percent will be uncollectible

Accounts receivable on March 31 is $30,000, all of which is collectible.

23-34

Cash Receipts BudgetCash Receipts BudgetApril May June

Budgeted unit sales 20,000 50,000 30,000 Price per unit 10$ 10$ 10$ Budgeted sales revenue 200,000$ 500,000$ 300,000$

Receipts from March sales 30,000$ Receipts from April salesReceipts from May salesReceipts from June salesTotal cash receipts 170,000$

23-35

Cash Receipts BudgetCash Receipts BudgetApril May June

Budgeted unit sales 20,000 50,000 30,000 Price per unit 10$ 10$ 10$ Budgeted sales revenue 200,000$ 500,000$ 300,000$

Receipts from March sales 30,000$ Receipts from April sales 140,000 50,000 Receipts from May salesReceipts from June salesTotal cash receipts 170,000$

April: .70 × $200,000 = $140,000 and .25 × $200,000 = $50,000

23-36

Cash Receipts BudgetCash Receipts BudgetApril May June

Budgeted unit sales 20,000 50,000 30,000 Price per unit 10$ 10$ 10$ Budgeted sales revenue 200,000$ 500,000$ 300,000$

Receipts from March sales 30,000$ Receipts from April sales 140,000 50,000 Receipts from May sales 350,000 125,000 Receipts from June salesTotal cash receipts 170,000$ 400,000$

April: .70 × $200,000 = $140,000 and .25 × $200,000 = $50,000 May: .70 × $500,000 = $350,000 and .25 × $500,000 = $125,000

23-37

April May JuneBudgeted unit sales 20,000 50,000 30,000 Price per unit 10$ 10$ 10$ Budgeted sales revenue 200,000$ 500,000$ 300,000$

Receipts from March sales 30,000$ Receipts from April sales 140,000 50,000 Receipts from May sales 350,000 125,000 Receipts from June sales 210,000 Total cash receipts 170,000$ 400,000$ 335,000$

April: .70 × $200,000 = $140,000 and .25 × $200,000 = $50,000 May: .70 × $500,000 = $350,000 and .25 × $500,000 = $125,000 June: .70 × $300,000 = $210,000

Cash Receipts BudgetCash Receipts Budget

23-38

.

We can now prepare a comprehensive

cash budget which will also include

cash disbursements.

Comprehensive Cash BudgetComprehensive Cash Budget

23-39

ProjectedIncome

Statement

Cash Budget

Complete

d

(assum

ed)

Projected Income StatementProjected Income Statement

23-40

Ellis Magnet CompanyBudgeted Income Statement

For the Three Months Ended June 30

Sales (100,000 units @ $10) 1,000,000$

Projected Income StatementProjected Income Statement

23-41

Ellis Magnet CompanyBudgeted Income Statement

For the Three Months Ended June 30

Sales (100,000 units @ $10) 1,000,000$Cost of goods sold (100,000 @ $4.99) 499,000 Gross margin 501,000

Computation of unit cost is assumed to shorten the

illustration.

Projected Income StatementProjected Income Statement

23-42

Ellis Magnet CompanyBudgeted Income Statement

For the Three Months Ended June 30

Sales (100,000 units @ $10) 1,000,000$Cost of goods sold (100,000 @ $4.99) 499,000 Gross margin 501,000 Selling and administrative expenses 260,000 Operating income 241,000 Interest expense 2,000 Net income 239,000$

Assumed

Projected Income StatementProjected Income Statement

23-43

Projected Balance SheetProjected Balance Sheet

ProjectedBalance

Sheet

Complete

d

ProjectedIncome

Statement

23-44

Ellis Magnet CompanyProjected Balance Sheet

June 30, 1999Current assets Cash 43,000$ Accounts receivable 75,000 Raw materials inventory 4,600 Finished goods inventory 24,950

Total current assets 147,550 Property and equipment Land 50,000 Building 174,500 Equipment 192,500 Total property and equipment 417,000

Total assets 564,550$

Liabilities and Equities Accounts payable 28,400$ Common stock 200,000 Retained earnings 336,150 Total liabilities and equities 564,550$

25% of Junesales of $300,000

11,500 lbs.at $.40 per lb.5,000 units

at $4.99 each50% of Junepurchases of $56,800

Beginning balance 148,150$Add: net income 239,000 Deduct: dividends (51,000) Ending balance 336,150$

23-45

Text IllustrationsText IllustrationsNow, let’s look more

closely at some of the illustrations in the chapter

23-46

Leed CompanyLeed Company

ILL. 23.3 (P. 833) - This is the basis for many subsequent illustrations.

ILL. 23.4 (P. 834) - You should have determined the source of each number here when you “worked your way through the chapter”. Questions?

23-47

Flexible Budget and Flexible Budget and Budget VariancesBudget Variances

Flexible Budget - one that provides budgeted revenues and expenses at various levels of output (i.e., production or sales)

“When management uses a flexible budget to appraise a department’s performance, it bases the evaluation on the amounts budgeted for the level of activity actually level of activity actually experiencedexperienced. The difference between the actualactual costs incurred and the flexible budget amount for that samesame levellevel of operationsof operations is called a budget variancebudget variance.”

p. 835

23-48

$9,600 Actual

- 7,000 Budgeted2,600 UNfavorable budget variance

Referring to ILL. 23.6 (p. 836), the Flexible Budget for Manufacturing Overhead, what is the relevant range?

17,500 to 25,000 units Now, if actual power cost = $9,600,

what is the budget variance?

Flexible Budget and Flexible Budget and Budget VariancesBudget Variances

23-49

Illustration 23.7 vs.Illustration 23.7 vs. Illustration 23.8 Illustration 23.8

23.7 - Comparison of Planned Operating Budget and Actual Results

Used for what?

Assessment of overall performance vs. objectives

What were objectives?

Sales of $400,000 and profit of $6,000

Why were earnings better than budget when sales were worse than budget?

23-50

Illustration 23.7 vs.Illustration 23.7 vs. Illustration 23.8 Illustration 23.8

23.8 - Comparison of Flexible Operating Budget and Actual Results

PleasePlease addadd to title to title: “At the Level of Production and Sales Attained”

Used for what?

Expense control purposes

p. 837

23-51

Additional Budgeting TopicAdditional Budgeting Topic

Zero-Base Budgeting

Managers start each year with zero budget levels and

must justify each dollar appearing in the budget instead of just taking the

prior year’s budget or actual results as the

starting point, as is so often done with traditional

budgeting.

Zero-Base Budgeting

Managers start each year with zero budget levels and

must justify each dollar appearing in the budget instead of just taking the

prior year’s budget or actual results as the

starting point, as is so often done with traditional

budgeting.

23-52

THE ENDTHE ENDI would be happy to assist you with your cash budget!