Budgeting

1. 0 22 Budgeting

2. 0 After studying this chapter, you should be able to: • Describe budgeting, its objectives, and its impact on human behavior. • Describe the basic elements of the budget process, the two major types of budgeting, and the use of computers in budgeting.

3. 0 After studying this chapter, you should be able to: • Describe the master budget for a manufacturing business. • Prepare the basic income statement budgets for a manufacturing business. • Prepare balance sheet budgets for a manufacturing business.

4. 0 22-1 Objective 1 Describe budgeting, its objectives, and its impact on human behavior.

5. 0 22-1 Budget A budget charts a course for a business by outlining the plans of the business in financial terms.

6. 0 Estimated Portion of Your Total Monthly Income That Should Be Budgeted for Various Living Expenses 22-1 Savings 8% Entertainment Housing 6% 30% Transportation 15% Clothing Utilities 7% 5% Other 4% Food Medical 6 5% 20%

7. Establishing specific goals Executing plans to achieve the goals Periodically comparing actual results to the goals 0 22-1 Objectives of Budgeting

8. 0 22-1 8

9. 0 22-1 Planning Budgeting supports the planning process by requiring all organizational units to establish their goals for the upcoming period. These goals motivate individuals and groups to perform at high levels. Planning also motivates employees to attain goals andimprove overall decision making.

10. 0 22-1 Directing The budget can be used to direct and coordinate operations in order to achieve the stated goals.

11. 0 22-1 Responsibility Centers The budgetary units of an organization are called responsibility centers. Each responsibility center is led by a manager who has the authority over and responsibility for the unit’s performance.

12. 0 22-1 Controlling Through Feedback As time passes, the actual performance of an operation can be compared against the planned goals. This provides prompt feedback to employees about their performance. If necessary, employees can use such feedback to adjust their activities in the future.

13. 0 22-1 Human Behavior and Budgeting Human behavior problems can arise if— • the budget goal is too tight and very hard for the employee to achieve. 13

14. 0 22-1 Human behavior problems can arise if— • the budget goal is too loose and very easy for the employee to achieve. 14

15. 0 22-1 It is undesirable to set lower goals than is attainable. Such budget “padding” is termed budgetary slack.

16. 0 22-1 Human behavior problems can arise if— • the budget goals of a business conflict with the objectives of the employees. 16

17. 0 22-1 Goal Conflict Goal conflict occurs when individual self-interest differs from business objectives or when different departments are given conflicting objectives.

18. 0 22-2 Objective 2 Describe the basic elements of the budget process, the two major types of budgeting, and the use of computers in budgeting.

19. 0 22-2 Budgeting Systems A variation of fiscal-year budgeting, called continuousbudgeting, maintains a twelve-month projection into the future.

20. One-Year Budget Add February 2009 Delete on February 28 0 22-2 Continuous Budgeting Feb. 2008 Feb. 2008 Mar. 2008 Apr. 2008 May 2008 June 2008 July 2008 Aug. 2008 Sep. 2008 Oct. 2008 Nov. 2008 Dec. 2008 Jan. 2009 Feb. 2009 20

21. 0 22-2 Zero-Based Budgeting Zero-based budgeting requires managers to estimate sales, production, and other operating data as though operations are being started for the first time.

22. 0 22-2 Static Budget • A static budget shows the expected results of a responsibility center for only one activity level. The budget does not change even if the activity changes. • A static budget is used by many service companies and for some administrative functions of manu-facturing companies.

23. 0 22-2 Strength:A static budget is simple—all expenses are budgeted as fixed costs. Weakness:A static budget does not adjust for changes in revenues and expenses that occur as volumes change.

24. 4 0 22-2 Static Budget Colter Manufacturing Company Assembly Department Budget For the Year Ending July 31, 2008 Direct labor $40,000 Electric power 5,000 Supervisor salaries 15,000 Total department costs $60,000 24

25. 0 22-2 Flexible Budget • Flexible budgets show the expected results of a responsibility center for several activity levels. • A flexible budget is especially useful in estimating and controlling factory costs and operating expenses.

26. Strength:Flexible budgeting provides information needed to analyze the impact of volume changes on actual operating results. 0 22-2 Weakness:Flexible budgeting requires greater research into costs. There must be a differentiation between fixed and variable costs.

27. 0 22-2 Flexible Budget 27

28. 0 22-2 Static and Flexible Budgets If Coulter Manufacturing Company’s Assembly Department spent $72,000 to produce 10,000 units, how much over or under budget would the department manager be using a static budget? A flexible budget?

29. $12,000 Over Budget Static Budget Actual Results $60,000 $72,000 0 22-2 Static and Flexible Budgets 29 (Continued)

30. $1,000 Over Budget 8,000 units 9,000 units 10,000 units Actual Results $72,000 0 22-2 Flexible Budget $60,000 $65,500 $71,000 30 (Concluded)

31. Example Exercise 22-1 0 22-2 At the beginning of the period, the Assembly Department budgeted direct labor of $45,000 and supervisor salaries of $30,000 for 5,000 hours of production. The department actually completed 6,000 hours of production. Determine the budget for the department, assuming that it uses flexible budgeting. 31

32. Follow My Example 22-1 0 22-2 Variable cost: Direct labor (6,000 hours x $9.00* per hour) $54,000 Fixed cost: Supervisor 30,000 Total department cost $84,000 *45,000/5,000 hours 32 For Practice: PE22-1A, PE22-1B

33. 0 22-3 Objective 3 Describe the master budget for a manufacturing business.

34. Budgeted Income Statement Budgeted Balance Sheet Sales budget Cost of goods sold budget: Production budget Direct materials purchases budget Direct labor cost budget Factory overhead cost budget Selling and administrative expense budget Cash budget Capital expenditures budget 0 22-3 Budgets That Are Linked Together in a Master Budget

35. 0 22-3 Income Statement Budgets 35

36. 0 22-4 Objective 4 Prepare the basic income statement budgets for a manufacturing business.

37. 0 22-4 Sales Budget The sales budget normally indicates for each product— (1) the quantity of estimated sales and (2) the expected unit selling price.

38. 0 22-4 Factors Expected to Affect Future Sales include— • backlog of unfilled sales orders • planned advertising and promotion • expected industry and general economic conditions • productive capacity • projected pricing policy • findings of market research studies

39. 0 22-4 Sales Budget 39

40. 0 22-4 Production Budget The number of units to be manufactured to meet budgeted sales and inventory needs for each product is set forth in the production budget.

41. Production Budget Expected units of sales + Desired units in ending inventory – Estimated units in beginning inventory Total units to be produced 0 22-4 Sales Budget 41

42. Example Exercise 22-2 0 22-4 Landon Awards Co. projected sales of 45,000 brass plaques for 2008. The estimated January 1, 2008 inventory is 3,000 units, and the desired December 31, 2008 inventory is 5,000 units. What is the budgeted production (in units) for 2008? 42

43. Follow My Example 22-2 0 22-4 Expected units to be sold 45,000 Plus: desired ending inventory, December 31, 2008 5,000 Total 50,000 Less estimated beginning inventory, January 1, 2008 3,000 Total units to be produced 47,000 43 For Practice: PE22-2A, PE22-2B

44. Production Budget Materials needed for production + Desired ending materials inventory – Estimated beginning materials inventory Direct materials to be purchased 0 22-4 Direct Materials Purchases Budget Sales Budget Direct Materials Purchases Budget 44

45. 0 22-4 Direct Materials Purchases Budget 45

46. Example Exercise 22-3 0 22-4 Landon Awards Co. budgeted production of 47,000 brass plaques in 2008. Brass sheet is required to produce a brass plaque. Assume 96 square inches of brass sheet is required for each brass plaque. The estimated January 1, 2008 brass sheet inventory is 240,000 square inches. The desired December 31, 2008 brass sheet inventory is 200,000 square inches. If brass sheets costs $0.12 per square inch, determine the materials purchases budget for 2008. 46

47. Follow My Example 22-3 0 22-4 Square inches required for production: Brass sheet (47,000 x 96 sq. in.) 4,512,000 Plus: desired ending inventory, December 31, 2008 200,000 Total 4,712,000 Less estimated beginning inventory, January 1, 2008 240,000 Total square inches to purchase 4,472,000 Unit price (per square inch) x $0.12 Total direct materials to be purchased $ 536,640 47 For Practice: PE22-3A, PE22-3B

48. Production Budget 0 22-4 Direct Labor Cost Budget Sales Budget Direct Materials Purchases Budget Direct Labor Cost Budget 48

49. 0 22-4 Direct Labor Cost Budget 49

50. Example Exercise 22-4 0 22-4 Landon Awards Co. budgeted production of 47,000 brass plaques in 2008. Each plaque requires engraving. Assume that 12 minutes are required to engrave each plaque. If engraving labor costs $11.00 per hour, determine the direct labor cost budget for 2008. 50