Budget

• A budget is a detailed plan for the future that is usually

expressed in formal quantitative terms.
• Individuals sometimes create household budgets that
balance their income and expenditures for food, clothing,
housing, and so on while providing for some savings.
• Once the budget is established, actual spending is
compared to the budget to make sure the plan is being
followed. Companies use budgets in a similar way,
although the amount of work and underlying details far
exceed a personal budget.
Purposes of Budget
• Budgets are used for two distinct purposes— planning and control.
Planning involves developing goals and preparing various budgets to
achieve those goals.
• Control involves gathering feedback to ensure that the plan is being
properly executed or modified as circumstances change. To be
effective, a good budgeting system must provide for both planning
and control.
• Good planning without effective control is a waste of time and effort.
• Planning -- involves developing objectives and preparing various
budgets to achieve these objectives.
• Control -- involves the steps taken by management that attempt to
ensure the objectives are attained.
Advantages of Budgeting
• 1. Budgets communicate management’s plans throughout the
organization.
• 2. Budgets force managers to think about and plan for the future. In
the absence of the necessity to prepare a budget, many managers
would spend all of their time dealing with day-to-day emergencies.
• 3. The budgeting process provides a means of allocating resources to
those parts of the organization where they can be used most
effectively.
• 4. The budgeting process can uncover potential bottlenecks before
they occur.
Advantages of Budgeting
• 5. Budgets coordinate the activities of the entire organization by
integrating the plans of its various parts. Budgeting helps to ensure
that everyone in the organization is pulling in the same direction.
• 6. Budgets define goals and objectives that can serve as benchmarks
for evaluating subsequent performance.
Responsibility Accounting

• The basic idea underlying responsibility accounting is that a manager

should be held responsible for those items—and only those items—
that the manager can actually control to a significant extent. Each line
item (i.e., revenue or cost) in the budget is the responsibility of a
manager who is held responsible for subsequent deviations between
budgeted goals and actual results.
• So responsibility accounting personalizes accounting information by
holding individuals responsible for revenues and costs. This concept is
central to any effective planning and control system.
• Someone must be held responsible for each cost or else no one will
be responsible and the cost will inevitably grow out of control.
CHOOSING THE BUDGET PERIOD

• Operating budgets ordinarily cover a one-year period corresponding

to the company’s fiscal year.
• Many companies divide their budget year into four quarters. The first
quarter is then subdivided into months, and monthly budgets are
developed.
• The annual operating budget may be divided into quarterly or
monthly budgets.
Self-imposed budget or participative
budget

• a budget that is prepared with the full cooperation and participation

of managers at all levels.
The Budget Committee

• A committee responsible for;

• overall policy matters relating to the budget
• coordinating the preparation of the budget.
The Master Budget
• The master budget consists of a number of separate but
interdependent budgets that formally lay out the company’s sales,
production, and financial goals.
• The master budget culminates in a cash budget, a budgeted income
statement, and a budgeted balance sheet
The Sales budget

• The first step in the budgeting process is the preparation of the sales
budget , which is a detailed schedule showing the expected sales for
the budget period.
• Detailed schedule showing expected sales for the coming periods
expressed in terms of units and dollars
Question
• Mynor Corporation manufactures and sells a seasonal product that
has peak sales in the third quarter. The following information
concerns operations for Year 2—the coming year—and for the first
two quarters of Year 3:
• a. The company’s single product sells for $8 per unit. Budgeted unit
sales for the next six quarters are as follows (all sales are on credit):
• b. Sales are collected in the following pattern: 75% in the quarter the
sales are made, and the remaining 25% in the following quarter. On
January 1, Year 2, the company’s balance sheet showed $65,000 in
accounts receivable, all of which will be collected in the first quarter
of the year. Bad debts are negligible and can be ignored.
• c. The company desires an ending finished goods inventory at the end
of each quarter equal to 30% of the budgeted unit sales for the next
quarter. On December 31, Year 1, the company had 12,000 units on
hand.
• d. Five pounds of raw materials are required to complete one unit of
product. The company requires ending raw materials inventory at the
end of each quarter equal to 10% of the following quarter’s
production needs. On December 31, Year 1, the company had 23,000
pounds of raw materials on hand.
• e. The raw material costs $0.80 per pound. Raw material purchases
are paid for in the following pattern:
• 60% paid in the quarter the purchases are made, and the remaining
40% paid in the following quarter. On January 1, Year 2, the
company’s balance sheet showed $81,500 in accounts payable for raw
material purchases, all of which will be paid for in the first quarter of
the year.
Requirement:
• Prepare the following budgets and schedules for the year, showing
both quarterly and total figures:
• 1. A sales budget and a schedule of expected cash collections.
• 2. A production budget.
• 3. A direct materials budget and a schedule of expected cash
payments for purchases of materials.
The sales budget
Expected cash collection
Based on the sales budget in units production
budget is as follows:
Based on production budget, raw material will
need to be purchased is calculated as follows:
Based on raw material purchases, expected
cash payments are as under:
Question No.2
• Morganton Company makes one product and it provided the
following information to help for preparing the master budget for its
first four months of operations:
• a. The budgeted selling price per unit is $70. Budgeted unit sales for
June, July, August, and September are 8,400, 10,000, 12,000, and
13,000 units, respectively. All sales are on credit.
• b. 40% of credit sales are collected in the month of the sale and 60%
in the following month.
• c. The ending finished goods inventory equals 20% of the following
month’s unit sales.
• d. The ending raw materials inventory equals 10% of the following
month’s raw materials production needs. Each unit of finished goods
requires 5 pounds of raw materials. The raw materials cost $2.00 per
pound.
• e. Thirty percent of raw materials purchases are paid for in the month
of purchase and 70% in the following month.
• f. The direct labor wage rate is $15 per hour. Each unit of finished
goods requires two direct labor-hours.
• g. The variable selling and administrative expense per unit sold is
$1.80. The fixed selling and administrative expense per month is
$60,000.
Requirements:1. What are the budgeted sales for July?

• 1. The budgeted sales for July:

• Units sold (a) ............................. 10,000
• Selling price per unit (b) ............. $70
• Total sales (a) × (b) ...................$700,000
2. What are the expected cash collections for July?

July
• June sales:
• $588,000 × 60% ................... …………..$352,800
• July sales:
• $700,000 × 40% ................... …………….280,000
• Total cash collections ................ …………$632,800
3. What is the accounts receivable balance at
the end of July?
• July sales (a) (10000units*$70)=$700,000
• Percent uncollected (b) ...............60%
• Accounts receivable (a) × (b) ......$420,000
4. According to the production budget, how
many units should be produced in July?
July
• Budgeted sales in units .................. …………………………………….10,000
• Add desired ending inventory* ....... …………………………………….2,400
• Total needs .................................. …………………………………………12,400
• Less beginning inventory** ............ ………………………………………2,000
• Required production ...................... ………………………………………10,400
• *August sales of 12,000 units × 20% = 2,400 units.
• **July sales of 10,000 units × 20% = 2,000 units.
5. If 61,000 pounds of raw materials are needed to meet production in August, how many
pounds
of raw materials should be purchased in July?
The raw material purchases for July:
July
• Required production in units of finished goods ................. 10,400
• Units of raw materials needed per unit of finished goods …..5
• Units of raw materials needed to meet production ............52,000
• Add desired units of ending raw materials inventory* .........6,100
• Total units of raw materials needed .....................................58,100
• Less units of beginning raw materials inventory** ...............5,200
• Units of raw materials to be purchased ................................52,900
• *61,000 pounds × 10% = 6,100 pounds.
• **52,000 pounds × 10% = 5,200 pounds.
6. What is the estimated cost of raw materials
purchases for July?
• The cost of raw material purchases for July:

• Units of raw materials to be purchased (a).........52,900

• Unit cost of raw materials (b) ............................ $2.00
• Cost of raw materials to be purchased (a) × (b) . $105,800
7. If the cost of raw material purchases in June is $88,880, what are the
estimated cash disbursements for raw materials purchases in July?

• The estimated cash disbursements for materials purchases in July:

July
• June purchases:
• $88,880 × 70% ................................ $62,216
• July purchases:
• $105,800 × 30% ................................31,740
• Total cash disbursements ...................$93,956
8. What is the estimated accounts payable balance at the end of July?

• The accounts payable balance at the end of July is:

• July purchases (a) ......................$105,800

• Percent unpaid (b) .....................70%
• Accounts payable (a) × (b) .........$74,060
9. What is the estimated raw materials inventory balance at the end of
July?

• Ending raw materials inventory (pounds) (a) ......6,100

• Cost per pound (b) ........................................... $2.00
• Raw material inventory balance (a) × (b) ..........$12,200
10. What is the total estimated direct labor cost for July assuming the direct labor
workforce is adjusted to match the hours required to produce the forecasted number
of units produced?

• The estimated direct labor cost for July is:

July
• Required production in units .............. 10,400
• Direct labor hours per unit .................× 2.0
• Total direct labor-hours needed (a)..... 20,800
• Direct labor cost per hour (b) ............. $15
• Total direct labor cost (a) × (b) .......... $312,000
11. If the company always uses an estimated predetermined plantwide
overhead rate of $10 per direct labor-hour, what is the estimated unit
product cost?

• The estimated unit product cost is:

Quantity Cost Total
• Direct materials .......................5 pounds $2 per pound $10.00
• Direct labor .............................2 hours $15 per hour 30.00
• Manufacturing overhead ........2 hours $10 per hour 20.00
• Unit product cost ..................... $60.00
12. What is the estimated finished goods inventory balance at the end of
July?

• Ending finished goods inventory in units (a) .......2,400

• Unit product cost (b) ........................................$60.00
• Ending finished goods inventory (a) × (b) ..........$144,000
13 What is the estimated cost of goods sold and gross margin for July?

The estimated cost of goods sold for July:

• Unit sales (a) ...................................................10,000
• Unit product cost (b) ........................................$60.00
• Estimated cost of goods sold (a) × (b) ..............$600,000

The estimated gross margin for July:

• Total sales (a) (10000Units*$70).....................$700,000
• Cost of goods sold (b) ......................................600,000
• Estimated gross margin (a) – (b) .......................$100,000
14. What is the estimated total selling and administrative expense for
July?

July
• Budgeted unit sales .......................................................... 10,000
• Variable selling and administrative expense per unit × $1.80
• Total variable expense ............................... ………………………..$18,000
• Fixed selling and administrative expenses ..............................60,000
• Total selling and administrative expenses .............................$78,000
15. What is the estimated net operating income for July?

• The estimated net operating income for July:

• Gross margin (a) ..............................................$100,000
• Selling and administrative expenses (b) .............78,000
• Net operating income (a) – (b) ..........................$ 22,000