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Budgeting
Lecture Outline
Definition and Concepts
Behavioral Aspects
Preparation of a Master Budget Static Budget vs. Flexible Budget Flexible Budgets
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Planning
Developing objectives for acquisition and use of resources.
Control
Steps taken by management to ensure that objectives are attained.
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Purposes of Budgeting
Provide standards used for performance evaluation and control
Provide information that can be used to improve decision making
Purposes
Force managers to plan for resource requirements.
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Rewards / Punishments
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Budget Periods
Operating Budget
2008
2009
2010
2011
Operating budgets ordinarily cover a oneone-year period corresponding to a companys fiscal year. Many companies divide their annual budget into quarterly & monthly budgets.
Operating budgets are more operational than strategic in nature, done by lower-level managers.
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Participative Budgeting
Top Management Middle Management Supervisor Supervisor Middle Management Supervisor Supervisor
Types of Budgets
Master Budget
Covering all phases of a companys operations.
Detail Budget
Detail Budget
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Financial Budgets
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Forecasts of customer needs from marketing personnel
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Sales Budget
Production Budget
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Budgeted product sales in units + Desired product units in ending inventory = Total product units needed Product units in beginning inventory = Product units to produce
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Ending inventory = 20% of next month's sales needs. June ending inventory = 0.2 25,000 July units = 5,000 units. Beginning inventory is last month's ending inventory.
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Ending inventory = 10% of next month's material needs. June ending inventory = .10 (23,000 units 5 lbs. per unit). June ending inventory = 11,500 lbs. Beginning inventory is last month's ending inventory.
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$ 40,000
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Units to produce Hours per unit Total hours required Wage rate per hour Direct labor cost
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Fixed manufacturing overhead includes $20,000 in depreciation which does not require a cash outflow.
April 26,000 $ 1.00 $ 26,000 50,000 $ 76,000 20,000 $ 56,000 May 46,000 $ 1.00 $ 46,000 50,000 $ 96,000 20,000 $ 76,000 June 29,000 $ 1.00 $ 29,000 50,000 $ 79,000 20,000 $ 59,000
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Units to produce Variable overhead rate Variable overhead cost Fixed overhead Total mfg. overhead cost Deduct depreciation Manufacturing overhead - cash
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Cash Budget
Selling and Administrative Expense Budget
Cash Budget
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4. Financing section details the borrowings and repayments projected to take place during the budget period.
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$ 170,000
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
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Cash Budget
Beginning cash balance Cash receipts Total cash receipts Cash payments: Materials budget Labor budget Manufacturing OH budget S&A expense budget Equipment purchases Dividends Total cash payments Balance before financing Borrowing Principal repayment Interest Ending cash balance April $ 40,000 170,000 $ 210,000 $ 40,000 13,000 56,000 70,000 0 51,000 $ 230,000 $ (20,000) 50,000 0 0 $ 30,000 May $ 30,000 400,000 $ 430,000 $ 72,300 23,000 76,000 85,000 143,700 0 $ 400,000 $ 30,000 0 0 0 $ 30,000 June $ 30,000 335,000 $ 365,000 $ 72,700 14,500 59,000 75,000 48,800 0 $ 270,000 $ 95,000 0 (50,000) (2,000) $ 43,000
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Land - $50,000 Building (net) - $174,500 Common stock - $200,000 Equipment (net) - $192,500 Retained earnings - $148,150 Paid dividends of $51,000
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Basket Company Budgeted Balance Sheet June 30, 2009 Current assets Cash Accounts receivable Raw materials inventory Finished goods inventory Total current assets Property and equipment Land Building Equipment Total property and equipment Total assets Liabilities and Equities Accounts payable Common stock Retained earnings Total liabilities and equities
June End Inv. 11,500 lbs. @ $.40 per lb. June End Inv. 5,000 units @ $4.99 each
Flexible Budgets Flexible Budgets are prepared for multiple activity levels (e.g. Sales budget prepared for 500,000 units, 800,000 units, 1,000,000 units etc).
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Performance evaluation is difficult when actual activity differs from the activity originally budgeted.
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Flexible Budgeting
U = Unfavorable variance Barton, Inc. was unable to achieve the budgeted level of activity.
Original Budget Units of Activity Variable costs Indirect labor Indirect materials Power Fixed costs Depreciation Insurance Total overhead costs 10,000 $ 40,000 30,000 5,000 12,000 2,000 $ 89,000 Actual Results 8,000 $ 34,000 25,500 3,800 12,000 2,000 $ 77,300 Variances 2,000 U $6,000 F 4,500 F 1,200 F 0 0 $11,700 F
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Flexible Budgeting
Original Budget Units of Activity Variable costs Indirect labor Indirect materials Power 10,000 $ 40,000 30,000 5,000 Actual Results 8,000 $ 34,000 25,500 3,800 Variances 2,000 U $6,000 F 4,500 F 1,200 F 0 0 $11,700 F
F = Favorable variance: actual costs Fixed costs are less than budgeted Depreciation 12,000 costs. 12,000 Insurance 2,000 2,000
Total overhead costs $ 89,000 $ 77,300
Q: Since cost variances are favorable, has Barton done a good job controlling costs?
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Flexible Budgeting
How much of the favorable cost variance is due to lower activity, and how much is due to good cost control? Shouldnt variable costs be lower if actual activity is below budgeted activity?
I dont think I can answer the question using the original budget.
To answer the question, we must flex the budget to the actual level of activity.
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Flexible Budgeting
Show expenses that should have occurred at the actual level of activity. May be prepared for any activity level in the relevant range. Reveal variances due to good cost control or lack of cost control. Improve performance evaluation.
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Flexible Budgeting
To flex 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 remain unchanged within the relevant range.
Fixed
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Flexible Budgeting
Cost Formula Per Hour Units of Activity Variable costs Indirect labor Indirect material Power Total variable cost Fixed costs Depreciation Insurance Total fixed cost Total overhead costs 4.00 3.00 0.50 7.50 Total Fixed Cost Flexible Budgets 8,000 10,000 Hours Hours 12,000 Hours
$ 32,000 In the 24,000 original budget, labor was $40,0004,000 for 10,000 hours resulting $ 60,000
10,000 12,000 Variable8,000 costs are expressed as a constant amount per hour.
$12,000 2,000
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Flexible Budgeting
Cost Formula Per Hour Units of Activity Variable costs Indirect labor Indirect material Power Total variable cost Fixed costs Depreciation Insurance Total fixed cost Total overhead costs 4.00 3.00 0.50 7.50 Total Fixed Cost Flexible Budgets 8,000 10,000 12,000 Hours Hours Hours 8,000 $ 32,000 24,000 4,000 $ 60,000 $12,000 $ 12,000 2,000 2,000 $ 14,000 $ 74,000 10,000 $ 40,000 30,000 5,000 $ 75,000 $ 12,000 2,000 $ 14,000 $ 89,000 12,000 $ 48,000 36,000 6,000 $ 90,000 $ 12,000 2,000 $ 14,000 $ 104,000
Flexible Budgeting
Cost Formula Per Hour Units of Activity Variable costs Indirect labor Indirect material Power Total variable cost Fixed costs Depreciation Insurance Total fixed cost Total overhead costs 4.00 3.00 0.50 7.50 Total Fixed Cost Flexible Budgets 8,000 10,000 Hours Hours 8,000 10,000 12,000 Hours 12,000
Fixed costs are expressed total $ 32,000 $ 40,000 as $ a 48,000 24,000 30,000 amount that does not change 36,000 within 4,000 5,000 6,000 the relevant range of activity.
$ 60,000 $ 75,000 $ 90,000 $12,000 2,000 $ 12,000 2,000 $ 14,000 $ 74,000 $ 12,000 2,000 $ 14,000 $ 89,000 $ 12,000 2,000 $ 14,000 $ 104,000
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Indirect labor and indirect material have unfavorable variances because actual costs are more than the flexible budget costs.
Cost Formula Per Hour Units of Activity Variable costs Indirect labor Indirect material Power Total variable costs Fixed Costs Depreciation Insurance Total fixed costs Total overhead costs $ 4.00 3.00 0.50 7.50 $12,000 2,000 Total Fixed Costs Flexible Budget 8,000 $ 32,000 24,000 4,000 $ 60,000 $ 12,000 2,000 $ 14,000 $ 74,000 Actual Results 8,000 $ 34,000 25,500 3,800 $ 63,300 $ 12,000 2,000 $ 14,000 $ 77,300
Review Questions
1. A store has budgeted sales of $36,000 in July. The store manager wants to have $7,000 in inventory at the end of July. Its beginning inventory is expected to be $6,000. What is the budgeted amount of merchandise purchases? a. $36,000. b. $37,000. c. $42,000. d. $43,000. 2. A company predicts its production and sales will be 24,000 units. At that level of activity, its fixed costs are budgeted at $12.50 per unit, and its variable costs are budgeted at $10.25. If its activity level declines to 20,000 units, what will be its fixed costs and its variable costs? a. Total fixed costs $300,000; Total variable costs $246,000. b. Total fixed costs $250,000; Total variable costs $205,000. c. Total fixed costs $300,000; Total variable costs $205,000. d. Total fixed costs $250,000; Total variable costs $246,000.
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Check List
Do you have a good understanding of:
END
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