Budgeting: The Basis for Planning and Control – Planning Developing objectives for acquisition and...

• Budgeting: The Basis for Planning and Control– Planning Developing objectives for acquisition and

use of resources. – Control Steps taken by management to ensure

that objectives are attained.

• Benefits Derived from Budgeting• Establishing Budgeted Amounts: The

“Behavioral” Approach– Problems & Solution

1

• Participation in Budget Process• The Budget Period (Time)• The Master Budget• Sales Budget• The Production Budget• The Production Budget Material Purchases• Cash Payments for Material Purchases• The Production Budget

2

• The Production Budget Direct Labor• Cash Payments for Direct Labor• The Production Budget Manufacturing

Overhead• Cash Payments for Manufacturing Overhead• Selling and Administrative (S&A) Expense

Budget• Cash Payments for (S&A) Expenses• Cash Receipts Budget

3

Comprehensive Cash Budget

Chapter

22

4

Comprehensive Cash Budget

With just a little more information we will be able to prepare a comprehensive cash

budget.

5

Ellis Magnet Company:Has a $100,000 line of credit at its bank, with a zero

balance on April 1.Maintains a $30,000 minimum cash balance.Borrows at the beginning of a month and repays at the

end of a month.Pays interest at 16 percent when a principal payment is

made.Pays a $51,000 cash dividend in April.Purchases equipment costing $143,700 in May and

$48,800 in June.Has a $40,000 cash balance on April 1.

Comprehensive Cash BudgetAdditional Information

6

Comprehensive Cash BudgetApril May June

Beginning cash balance 40,000$ Cash receipts

Cash available

Cash payments: Materials budget Labor budget Manufacturing OH budget S&A expense budget Equipment purchases Dividends

Total cash payments

Balance before financing

BorrowingPrincipal repaymentInterest

Ending cash balance7


Beginning cash balance 40,000$ Cash receipts 170,000 400,000 335,000

Cash available 210,000$

Cash payments: Materials budget Labor budget Manufacturing OH budget S&A expense budget Equipment purchases Dividends

Total cash payments

Balance before financing




Beginning cash balance 40,000$ Cash receipts 170,000 400,000 335,000

Cash available 210,000$

Cash payments: Materials budget 40,000$ 72,300$ 72,700$ Labor budget 13,000 23,000 14,500 Manufacturing OH budget 56,000 76,000 59,000 S&A expense budget 70,000 85,000 75,000 Equipment purchases 0 143,700 48,800 Dividends 51,000 0 0

Total cash payments 230,000$ 400,000$ 270,000$

Balance before financing (20,000)$




Beginning cash balance 40,000$ 30,000$ Cash receipts 170,000 400,000 335,000

Cash available 210,000$ 430,000$



Balance before financing (20,000)$ 30,000$

Borrowing 50,000 Principal repayment 0Interest 0

Ending cash balance 30,000$ 10


Beginning cash balance 40,000$ 30,000$ 30,000$ Cash receipts 170,000 400,000 335,000

Cash available 210,000$ 430,000$ 365,000$



Balance before financing (20,000)$ 30,000$ 95,000$

Borrowing 50,000 0Principal repayment 0 0Interest 0 0

Ending cash balance 30,000$ 30,000$ 11


Beginning cash balance 40,000$ 30,000$ 30,000$ Cash receipts 170,000 400,000 335,000

Cash available 210,000$ 430,000$ 365,000$



Balance before financing (20,000)$ 30,000$ 95,000$

Borrowing 50,000 0 0Principal repayment 0 0 (50,000) Interest 0 0 (2,000)

Ending cash balance 30,000$ 30,000$ 43,000$

$50,000 × .16 × 3/12 = $2,000

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BudgetedIncome

Statement

Cash Budget

Complete

d

The BudgetedIncome Statement

13

Ellis Magnet CompanyBudgeted Income Statement

For the Three Months Ended June 30

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


14



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 follows


15

Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. 0.40$ 2.00$ Direct labor 0.05 hrs. 10.00$ 0.50 Manufacturing overhead 0.05 hrs. 49.70$ 2.49 Total unit cost 4.99$

Total mfg. OH for quarter $251,000 Total labor hours required 5,050 hrs.

= $49.70 per hr.

From labor and Mfg. OH budgets

Labor Hours Mfg. OHApril 1,300 76,000$ May 2,300 96,000 June 1,450 79,000 Total 5,050 251,000$

Manufacturingoverhead is applied

based ondirect labor hours.


16



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$

From S&A Expense Budget

April 80,000$ May 95,000 June 85,000 Total 260,000$


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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$


18

BudgetedBalance

Sheet

Complete

d

BudgetedIncome

Statement

The BudgetedBalance Sheet

19

The BudgetedBalance Sheet

Ellis reports the following account balances on June 30, prior to preparing its budgeted

financial statements: Land - $50,000 Building (net) - $174,500 Common stock - $200,000 Equipment (net) - $192,500 Retained earnings - $148,150

Ellis reports the following account balances on June 30, prior to preparing its budgeted

financial statements: Land - $50,000 Building (net) - $174,500 Common stock - $200,000 Equipment (net) - $192,500 Retained earnings - $148,150

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Ellis Magnet CompanyBudgeted Balance Sheet

June 30, 2002Current 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. @ $.40 per lb.

50% of Junepurchases of $56,800

5,000 units@ $4.99 each

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Ellis Magnet CompanyBudgeted Balance Sheet

June 30, 2002Current 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$

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

22

Flexible Budgeting

Let’s change topics.

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Flexible Budgeting

Performance evaluation is difficult when actual activity differs from the

activity originally budgeted.

Hmm! Comparingcosts at differentlevels of activity is like comparing

apples with oranges.

Consider the followingcondensed example

from the CheeseCompany . . .

Consider the followingcondensed example

from the CheeseCompany . . .

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Flexible Budgeting

Original ActualBudget Results Variances

Units of Activity 10,000 8,000 2,000 U

Variable costs Indirect labor 40,000$ 34,000$ $6,000 F Indirect materials 30,000 25,500 4,500 F Power 5,000 3,800 1,200 F

Fixed costs Depreciation 12,000 12,000 0 Insurance 2,000 2,000 0

Total overhead costs 89,000$ 77,300$ $11,700 F

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U = Unfavorable variance – Cheese Company was unable to achieve the budgeted level of activity.

Flexible Budgeting

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F = Favorable variance: actual costs are less than budgeted costs.

Flexible Budgeting

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Since cost variances are favorable, havewe done a good job controlling costs?

Flexible Budgeting

28

I don’t think I can answer the question

using the originalbudget.

How much ofthe favorable cost

variance is due to loweractivity, and how much is due

to good cost control?

Flexible Budgeting

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Flexible Budgeting

I don’t think I can answer the question

using the originalbudget.

How much ofthe favorable cost

variance is due to loweractivity, and how much is due

to good cost control?

To answer the question, we mustthe budget to the actual level of activity.

30

Flexible Budgeting

Central Concept

If you can tell me what your activity wasfor the period, I will tell you what your costs and

revenue should have been.

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Improve performance evaluation.

May be prepared for any activity level in the relevant range.

Show expenses that should haveoccurred at the actual level ofactivity.

Reveal variances due to good costcontrol or lack of cost control.

Flexible Budgeting

32

Flexible Budgeting

To a budget for different activity levels, we must know how costs behave with changes in activity levels.– Total variable costs change

in direct proportion to changes in activity.

– Total fixed costs remainunchanged within therelevant range.

FixedVaria

ble

33

Let’s prepare budgets for the Cheese Company.

Flexible Budgeting

34

Flexible BudgetingCost Total Flexible Budgets

Formula Fixed 8,000 10,000 12,000Per Hour Cost Hours Hours Hours

Units of Activity 8,000 10,000 12,000

Variable costs Indirect labor 4.00 32,000$ Indirect material 3.00 24,000 Power 0.50 4,000 Total variable cost 7.50$ 60,000$

Fixed costs Depreciation 12,000$ Insurance 2,000 Total fixed costTotal overhead costs

Variable costs are expressed as a constant amount per hour.

In the original budget, indirect labor was $40,000 for 10,000 hours resulting in a rate of

$4.00 per hour.

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Variable costs Indirect labor 4.00 32,000$ 40,000$ 48,000$ Indirect material 3.00 24,000 30,000 36,000 Power 0.50 4,000 5,000 6,000 Total variable cost 7.50$ 60,000$ 75,000$ 90,000$

Fixed costs Depreciation 12,000$ 12,000$ 12,000$ 12,000$ Insurance 2,000 2,000 2,000 2,000 Total fixed cost 14,000$ 14,000$ 14,000$ Total overhead costs 74,000$ 89,000$ 104,000$

36





Fixed costs Depreciation 12,000$ 12,000$ 12,000$ 12,000$ Insurance 2,000 2,000 2,000 2,000 Total fixed cost 14,000$ 14,000$ 14,000$ Total overhead costs 74,000$ 89,000$ 104,000$Total variable cost = $7.50 per unit × budget level in units

37





Fixed costs Depreciation 12,000$ 12,000$ 12,000$ 12,000$ Insurance 2,000 2,000 2,000 2,000 Total fixed cost 14,000$ 14,000$ 14,000$ Total overhead costs 74,000$ 89,000$ 104,000$

Fixed costs are expressed as a total amount that does not change within the relevant

range of activity.

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Now let’s prepare a budget performance report at 8,000 actual machine hours for the Cheese Co.

Flexible BudgetingPerformance Report

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Cost TotalFormula Fixed Flexible ActualPer Hour Costs Budget Results Variances

Units of Activity 8,000 8,000 0

Variable costs Indirect labor 4.00$ 32,000$ 34,000$ $ 2,000 U Indirect material 3.00 24,000 25,500 1,500 U Power 0.50 4,000 3,800 200 FTotal variable costs 7.50$ 60,000$ 63,300$ $ 3,300 UFixed Costs Depreciation 12,000$ 12,000$ 12,000$ 0 Insurance 2,000 2,000 2,000 0Total fixed costs 14,000$ 14,000$ 0Total overhead costs 74,000$ 77,300$ $ 3,300 U


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Indirect labor and indirect material have unfavorable variances because actual costs

are more than the flexible budget costs.


41




Power has a favorable variance because the

actual cost is less than the flexible budget cost.


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End of Chapter # 22Allah Hafiz

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