Chapter 9
Profit Planning
and
Activity-Based
Budgeting
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Learning
Objective
1
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Purposes of Budgeting Systems
Budget
1. Planning
a detailed plan,
2. Facilitating
expressed in Communication and
quantitative terms, Coordination
that specifies how 3. Allocating Resources
resources will be 4. Controlling Profit and
acquired and used Operations
during a specified 5. Evaluating
period of time. Performance and
Providing Incentives
9-3
Types of Budgets
Detail
Budget
Detail
Budget
Detail
Production
Budget
Master
Budget
Covering all
phases of
a company’s
operations.
9-4
Types of Budgets
Income
Statement
Budgeted
Financial
Statements
Balance Statement of
Sheet Cash Flows
9-5
Types of Budgets
Capital budgets with acquisitions
that normally cover several years.
Financial budgets with financial
resource acquisitions.
Long Range Budgets
Continuous or
1999Rolling Budget 2000 2001 2002
This budget is usually a twelve-month
budget that rolls forward one month
as the current month is completed.
9-6
Learning
Objective
2
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Sales of Services or Goods
Ending
Inventory Production
Budget Budget
Work in Process
and Finished
Goods
Ending Direct Direct Selling and
Overhead
Inventory Materials Labor Administrative
Budget Budget Budget Budget
Budget
Direct Materials
Cash Budget
Budgeted Income
Statement
Budgeted Balance
Sheet
Budgeted Statement
of Cash Flows
9-8
Learning
Objective
3
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Activity-Based Costing versus
Activity-Based Budgeting
Resources Resources
Activity-Based
Costing (ABC)
Activities Activities
Activity-Based
Cost objects: Budgeting (ABB)
Forecast of products
products and services and services to be
produced, and produced and
customers served. customers served.
9-10
Learning
Objective
4
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Sales Budget
Breakers, Inc. is preparing budgets for the quarter
ending June 30.
Budgeted sales for the next five months are:
April 20,000 units
May 50,000 units
June 30,000 units
July 25,000 units
August 15,000 units.
The selling price is $10 per unit.
9-12
Sales Budget
April May June Quarter
Budgeted
sales (units) 20,000 50,000 30,000 100,000
Selling price
per unit $ 10 $ 10 $ 10 $ 10
Total
Revenue $ 200,000 $ 500,000 $ 300,000 $ 1,000,000
9-13
Production Budget
The management of Breakers, Inc. wants ending
inventory to be equal to 20% of the following
month’s budgeted sales in units.
On March 31, 4,000 units were on hand.
Let’s prepare the production budget.
9-14
From
sales
Production Budget
budget May sales 50,000 units
Desired percent 20%
April May June Quarter
Desired inventory 10,000 units
Sales in units 20,000 50,000 30,000 100,000
Add: desired Ending inventory becomes
end. inventory 10,000 6,000beginning 5,000 5,000
inventory the next
Total needed 30,000 56,000 35,000
month 105,000
Less: beg.
inventory 4,000 10,000 6,000 4,000
Units to be
produced 26,000 46,000 29,000 101,000
March 31
ending inventory
9-15
Direct-Material Budget
• At Breakers, five pounds of material are required
per unit of product.
• Management wants materials on hand at the end
of each month equal to 10% of the following
month’s production.
• On March 31, 13,000 pounds of material are on
hand. Material cost $.40 per pound.
Let’s prepare the direct materials budget.
9-16
From our
production
Direct-Material Budget
budget
April May June Quarter
Production in units 26,000 46,000 29,000 101,000
Materials per unit 5 5 5 5
Production needs 130,000 230,000 145,000 505,000
Add: desired
ending inventory 23,000 14,500 11,500 11,500
Total needed 153,000 244,500 156,500 516,500
Less: beginning
inventory 13,000 23,000 14,500 13,000
Materials to be
purchased 140,000 221,500 142,000 503,500
10% of the following March 31
month’s production inventory
9-17
Direct-Material Budget
July Production
Sales in units April 25,000 May June Quarter
Add: Production in units
desired ending inventory26,000 3,000 46,000 29,000 101,000
TotalMaterials
units needed
per unit 528,000 5 5 5
Less:Production
beginning inventory
needs 130,000 5,000 230,000 145,000 505,000
Production in units 23,000
Add: desired
ending inventory 23,000 14,500 11,500 11,500
Total needed 153,000 244,500 156,500 516,500
Less: beginning
inventory June Ending Inventory
13,000 23,000 14,500 13,000
July
Materials toproduction
be in units 23,000
Materials per unit
purchased 140,000 221,500 5142,000 503,500
Total units needed 115,000
Inventory percentage 10%
June desired ending inventory 11,500
9-18
Direct-Labor Budget
• At Breakers, each unit of product requires 0.1 hours
of direct labor.
• The Company has a “no layoff” policy so all
employees will be paid for 40 hours of work each
week.
• In exchange for the “no layoff” policy, workers agreed
to a wage rate of $8 per hour regardless of the hours
worked (No overtime pay).
• For the next three months, the direct labor workforce
will be paid for a minimum of 3,000 hours per month.
Let’s prepare the direct labor budget.
9-19
Direct-Labor Budget
April May June Quarter
Production in units 26,000 46,000 29,000 101,000
Direct labor hours 0.10 0.10 0.10 0.10
Labor hours required 2,600 4,600 2,900 10,100
Guaranteed labor
hours 3,000 3,000 3,000
Labor hours paid 3,000 4,600 3,000 10,600
Wage rate $ 8 $ 8 $ 8 $ 8
Total direct labot cost $ 24,000 $ 36,800 $ 24,000 $ 84,800
From our This is the greater of
production labor hours required or
budget labor hours guaranteed.
9-20
Overhead Budget
Here is Breakers’ Overhead Budget for the quarter.
April May June Quarter
Indirect labor $ 17,500 $ 26,500 $ 17,900 $ 61,900
Indirect material 7,000 12,600 8,600 28,200
Utilities 4,200 8,400 5,200 17,800
Rent 13,300 13,300 13,300 39,900
Insurance 5,800 5,800 5,800 17,400
Maintenance 8,200 9,400 8,200 25,800
$ 56,000 $ 76,000 $ 59,000 $ 191,000
9-21
Selling and Administrative
Expense Budget
• At Breakers, variable selling and administrative
expenses are $0.50 per unit sold.
• Fixed selling and administrative expenses are
$70,000 per month.
• The $70,000 fixed expenses include $10,000 in
depreciation expense that does not require a cash
outflows for the month.
9-22
Selling and Administrative
Expense Budget
April May June Quarter
Sales in units 20,000 50,000 30,000 100,000
Variable S&A rate $ 0.50 $ 0.50 $ 0.50 $ 0.50
Variable expense $ 10,000 $ 25,000 $ 15,000 $ 50,000
Fixed S&A
expense 70,000 70,000 70,000 210,000
Total expense 80,000 95,000 85,000 260,000
Less: noncash
expenses 10,000 10,000 10,000 30,000
Cash
disbursements $ 70,000 $ 85,000 $ 75,000 $ 230,000
From our
Sales budget
9-23
Cash Receipts Budget
• At Breakers, all sales are on account.
• The company’s collection pattern is:
70% collected in the month of sale,
25% collected in the month following sale,
5% is uncollected.
• The March 31 accounts receivable balance of
$30,000 will be collected in full.
9-24
Cash Receipts Budget
April May June Quarter
Accounts rec. - 3/31 $ 30,000 $ 30,000
April sales
70% x $200,000 140,000 140,000
25% x $200,000 $ 50,000 50,000
May sales
70% x $500,000 350,000 350,000
25% x $500,000 $ 125,000 125,000
June sales
70% x $300,000 210,000 210,000
Total cash collections $ 170,000 $ 400,000 $ 335,000 $ 905,000
9-25
Cash Disbursement Budget
• Breakers pays $0.40 per pound for its materials.
• One-half of a month’s purchases are paid for in the
month of purchase; the other half is paid in the
following month.
• No discounts are available.
• The March 31 accounts payable balance is
$12,000.
9-26
Cash Disbursement Budget
April May June Quarter
Accounts pay. 3/31 $ 12,000 $ 12,000
April purchases
50% x $56,000 28,000 28,000
50% x $56,000 $ 28,000 28,000
May purchases
50% x $88,600 44,300 44,300
50% x $88,600 $ 44,300 44,300
June purchases
50% x $56,800 28,400 28,400
Total cash payments
for materials $ 40,000 $ 72,300 $ 72,700 $ 185,000
140,000 lbs. × $.40/lb. = $56,000
9-27
Cash Disbursement Budget
Breakers:
– Maintains a 12% open line of credit for $75,000.
– Maintains a minimum cash balance of $30,000.
– Borrows and repays loans on the last day of the
month.
– Pays a cash dividend of $25,000 in April.
– Purchases $143,700 of equipment in May and
$48,300 in June paid in cash.
– Has an April 1 cash balance of $40,000.
9-28
From our Cash
Receipts Budget Cash Budget
(Collections and Disbursements)
April May June Quarter
Beginning cash balance $ 40,000 From our Cash Disbursements
Add: cash collections 170,000 Budget
Total cash available 210,000
Less: disbursements From our Direct Labor Budget
Materials 40,000
Direct labor 24,000 From our Overhead Budget
Mfg. overhead 56,000
Selling and admin. 70,000 From our Selling and
Equipment purchase - Administrative Expense
Dividends 25,000 Budget
Total disbursements 215,000
To maintain a cash
Excess (deficiency) of
balance of $30,000,
Cash available over Breakers must borrow
disbursements $ (5,000) $35,000 on its line of credit.
9-29
Cash Budget
(Collections and Disbursements)
April May June Quarter
Beginning cash balance $ 40,000 $ 30,000
Add: cash collections 170,000 400,000
Total cash available 210,000 430,000
Less: disbursements
Materials 40,000 72,300 Breakers must
Direct labor 24,000 36,800
borrow an
Mfg. overhead 56,000 76,000
Selling and admin. 70,000 85,000
addition $13,800
Equipment purchase - 143,700 to maintain a
Dividends 25,000 - cash balance
Total disbursements 215,000 413,800 of $30,000.
Excess (deficiency) of
Cash available over
disbursements $ (5,000) $ 16,200
9-30
Cash Budget
(Collections and Disbursements)
April May June Quarter
Beginning
At thecash
endbalance $ 40,000
of June, Breakers$ 30,000 $ 30,000
Add: cash collections
has enough cash170,000
to repay 400,000 335,000
Total cash available 210,000 430,000 365,000
the $48,800 loan plus interest
Less: disbursements
Materials at 12%. 40,000 72,300 72,700
Direct labor 24,000 36,800 24,000
Mfg. overhead 56,000 76,000 59,000
Selling and admin. 70,000 85,000 75,000
Equipment purchase - 143,700 48,300
Dividends 25,000 - -
Total disbursements 215,000 413,800 279,000
Excess (deficiency) of
Cash available over
disbursements $ (5,000) $ 16,200 $ 86,000
9-31
Cash Budget
(Collections and Disbursements)
April May June Quarter
Beginning cash balance $ 40,000 $ 30,000 $ 30,000 $ 40,000
Add: cash collections 170,000 400,000 335,000 905,000
Total cash available 210,000 430,000 365,000 945,000
Less: disbursements
Materials 40,000 72,300 72,700 185,000
Direct labor 24,000 36,800 24,000 84,800
Mfg. overhead 56,000 76,000 59,000 191,000
Selling and admin. 70,000 85,000 75,000 230,000
Equipment purchase - 143,700 48,300 192,000
Dividends 25,000 - - 25,000
Total disbursements 215,000 413,800 279,000 907,800
Excess (deficiency) of
Cash available over
disbursements $ (5,000) $ 16,200 $ 86,000 $ 37,200
9-32
Ending cash
balance for April
is the beginning Cash Budget
May balance. (Financing and Repayment)
April May June Quarter
Excess (deficiency) of
Cash available over
disbursements $ (5,000) $ 16,200 $ 86,000 $ 37,200
Financing:
Borrowing 35,000 13,800 48,800
Repayments - - (48,800) (48,800)
Interest - - (838) (838)
Total financing 35,000 13,800 (49,638) (838)
Ending cash balance $ 30,000 $ 30,000 $ 36,362 $ 36,362
Annual Months Interest
Borrowing Rate Interest Outstanding Expense
$ 35,000 × 12% = $ 4,200 × 2 mths = $ 700
13,800 × 12% = 1,656 × 1 mth. = 138
$ 838
9-33
Cost of Goods Manufactured
April May June Quarter
Direct material:
Beg.material inventory $ 5,200 $ 9,200 $ 5,800 $ 5,200
Add: Materials purchases 56,000 88,600 56,800 201,400
Material available for use 61,200 97,800 62,600 206,600
Deduct: End. material inventory 9,200 5,800 4,600 4,600
Direct material used 52,000 92,000 58,000 202,000
Direct labor 24,000 36,800 24,000 84,800
Manufacturing overhead 56,000 76,000 59,000 191,000
Total manufacturing costs 132,000 204,800 141,000 477,800
Add: Beg. Work-in-process inventory 3,800 16,200 9,400 3,800
Subtotal 135,800 221,000 150,400 481,600
Deduct: End.Work-in-process inventory 16,200 9,400 17,000 17,000
Cost of goods manufactured $ 119,600 $ 211,600 $ 133,400 $ 464,600
9-34
Cost of Goods Sold
April May June Quarter
Cost of goods manufactured $ 119,600 $ 211,600 $ 133,400 $ 464,600
Add: Beg. finished-goods inventory 18,400 46,000 27,600 18,400
Cost of goods available for sale 138,000 257,600 161,000 483,000
Deduct: End. finished-goods inventory 46,000 27,600 23,000 23,000
Cost of goods sold $ 92,000 $ 230,000 $ 138,000 $ 460,000
9-35
Budgeted Income Statement
Breakers, Inc.
Budgeted Income Statement
For the Three Months Ended June 30
Revenue (100,000 × $10) $ 1,000,000
Cost of goods sold 460,000
Gross margin 540,000
Operating expenses:
Selling and admin. expenses $ 260,000
Interest expense 838
Total operating expenses 260,838
Net income $ 279,162
9-36
Budgeted Statement of Cash Flows
April May June Quarter
Cash flows from operating activities:
Cash receipts from customers $ 170,000 $ 400,000 $ 335,000 $ 905,000
Cash payments:
To suppliers of raw material (40,000) (72,300) (72,700) (185,000)
For direct labor (24,000) (36,800) (24,000) (84,800)
For manufacturing-overhead expenditures (56,000) (76,000) (59,000) (191,000)
For selling and administrative expenses (70,000) (85,000) (75,000) (230,000)
For interest - - (838) (838)
Total cash payments (190,000) (270,100) (231,538) (691,638)
Net cash flow from operating activities $ (20,000) $ 129,900 $ 103,462 $ 213,362
Cash flows from investing activities:
Purchase of equipment - (143,700) (48,300) (192,000)
Net cash used by investing activities $ - $ (143,700) $ (48,300) $ (192,000)
Cash flows from financing activities:
Payment of dividends (25,000) - - (25,000)
Principle of bank loan 35,000 13,800 - 48,800
Repayment of bank loan - - (48,800) (48,800)
Net cash provided by financing activities $ 10,000 $ 13,800 $ (48,800) $ -
Net increase in cash $ (10,000) $ - $ 6,362 $ (3,638)
Balance in cash, beginning 40,000 30,000 30,000 40,000
Balance in cash. end of month $ 30,000 $ 30,000 $ 36,362 $ 36,362
9-37
Budgeted Balance Sheet
Breakers reports the following account balances
on June 30 prior to preparing its budgeted
financial statements:
• Land - $50,000
• Building (net) - $148,000
• Common stock - $217,000
• Retained earnings - $46,400
9-38
25%of June Breakers, Inc.
sales of Budgeted Balance Sheet
June 30
$300,000
Current assets
11,500 lbs. at Cash $ 36,362
Accounts receivable 75,000
$.40 per lb.
Raw materials inventory 4,600
Work-in-process inventory 17,000
5,000 units at Finished goods inventory 23,000
$4.60 per unit. Total current assets 155,962
Property and equipment
Land 50,000
50% of June
Building 148,000
purchases Equipment 192,000
of $56,800 Total property and equipment 390,000
Total assets $ 545,962
Beginning balance $ 46,400
Add: net income 279,162 Accounts payable $ 28,400
Deduct: dividends (25,000) Common stock 217,000
Ending balance $300,562 Retained earnings 300,562
Total liabilities and equities $ 545,962
9-39
Learning
Objective
5
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Sales of Services or Goods
Ending
Inventory Production
Budget Budget
Work in Process
and Finished
Goods
When the interactions of the elements
of the master
Ending Direct budget
Directare expressedSelling
Overhead as and
Inventory Materials Labor Administrative
Budget a set of mathematical
Budget Budget relations,
Budget it Budget
becomes a financial planning model
Direct Materials
that can be used to answer “what if”
Cash Budget
questions about unknown variables. Budgeted Income
Statement
Budgeted Balance
Sheet
Budgeted Statement
of Cash Flows
9-41
Learning
Objective
6
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Budget Administration
The Budget Committee is a standing
committee responsible for . . .
overall policy matters relating to the budget.
coordinating the preparation of the budget.
9-43
International Aspects of Budgeting
Firms with international operations face special problems
when preparing a budget.
1. Fluctuations in foreign currency exchange
rates.
2. High inflation rates in some foreign countries.
3. Differences in local economic conditions.
9-44
Learning
Objective
7
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Budgeting Product Life-Cycle
Costs
Product planning
and concept
Design.
Distribution
Preliminary
and customer
design.
service.
Detailed design
Production.
and testing.
9-46
Learning
Objective
8
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Behavioral Impact of Budgets
Budgetary Slack: Padding the Budget
People often perceive that their performance will
look better in their superiors’ eyes if they can
“beat the budget.”
9-48
Participative Budgeting
Top Management
Middle Middle
Management Management
Supervisor Supervisor Supervisor Supervisor
Flow of Budget Data
9-49
End of Chapter 9
9-50
