Chapter 8 Budgeting For Planning and Control PDF Free
Chapter 8 Budgeting For Planning and Control PDF Free
Chapter 8 Budgeting For Planning and Control PDF Free
LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Define budgeting and discuss its role in planning, controlling, and decision making.
2. Prepare the operating budget, identify its major components, and explain the interrelation-
ships of the various components.
3. Identify the components of the financial budget, and prepare a cash budget.
4. Describe budgets for merchandising and service firms.
C H A P T E R S U M M A RY
This chapter explains how budgeting plays a key role in planning, controlling, and decision mak-
ing, as well as improving communication and coordination. The chapter focuses on the master
budget and identifies its major components. The process of preparing a set of operating and fi-
nancial budgets for the budget period is described with the emphasis on the interrelationships of
the various budgets. The chapter concludes by describing budgets for merchandising and ser-
vice firms.
CHAPTER REVIEW
I. The Role of Budgeting in Planning and Control Learning Objective #1
Budgeting plays a crucial role in planning and control.
Budgets are the quantitative expressions of plans that identify an organization’s objec-
tives and the actions needed to achieve them. They form the basis for operations.
Control is the process of setting standards, receiving feedback on actual performance,
and taking corrective action.
Budgets can be used to compare actual outcomes with planned outcomes.
A. Purposes of Budgeting
The system of budgets serves as the comprehensive financial plan for the organiza-
tion as a whole.
169
170 Chapter 8
The yearly master budget can be broken down into quarterly and monthly bud-
gets to allow managers to compare actual data with budgeted data as the year
unfolds and to make timely corrections.
Review textbook Exhibit 8-2, which illustrates the components of the master budget.
The first part of the master budget is the operating budget. The components of the operat-
ing budget include the following:
A. The sales budget is the projection approved by the budget committee that describes
expected sales for each product in units and dollars for the coming period.
The sales budget may reveal seasonal fluctuations in sales.
Sales = Units × Unit selling price
Review textbook Schedule 1, which provides a numeric example of the sales budget.
172 Chapter 8
B. The production budget describes how many units must be produced to meet sales
needs and satisfy ending inventory requirements.
The production budget must consider the company’s inventory policy and, thus,
the beginning inventory and desirable ending inventory levels.
Units to be produced =
Ending inventory units + Units sales – Beginning inventory units
Review textbook Schedule 2, which provides a numeric example of the production bud-
get.
C. The direct materials purchases budget outlines the expected usage of materials for
production, inventories, and purchases of the direct materials required.
The direct materials usage is determined by the input-output relationship of each
product as follows:
Expected DM usage = DM units needed per unit of output × Units of output
Budgeted DM purchases in units =
Desired ending DM units + Expected DM usage – Beginning DM units
DM purchase costs = Budgeted DM purchases in units × Unit price
Note that a separate schedule is prepared for each kind of direct material.
D. The direct labor budget shows the total direct labor hours needed and the associat-
ed cost based on the input-output relationship of each product.
Expected DL hours = DL hours needed per unit of output × Units of output
DL costs = Expected DL hours × Wage rate
E. The overhead budget shows the expected cost of all indirect manufacturing items.
The estimated overhead is divided into variable and fixed components:
Total overhead = (Variable overhead rate × Activity level per chosen cost driver)
+ Budgeted total fixed overhead
Review textbook Schedules 3,4, and 5, which provide numeric examples of the direct
material purchases budget, the direct labor budget, and the overhead budget.
Note that the direct materials purchase budget, the direct labor budget, and
the overhead budget are based on the production budget.
F. The ending finished goods inventory budget supplies information needed for the
balance sheet and serves as input for the preparation of the cost of goods sold bud-
get.
It provides information for the unit cost of a finished product and the cost of the ex-
pected inventories.
Budgeting for Planning and Control 173
G. The cost of goods sold budget provides the information needed for the pro forma in-
come statement.
Note that the ending finished goods inventory budget and the
cost of goods sold budget draw information from the direct materials
purchases budget, the direct labor budget and the overhead budget.
H. The marketing expense budget outlines planned expenditures for selling and distri-
bution activities.
The estimated marketing expense is divided into variable and fixed components:
Total marketing expense = (Variable marketing rate × Sales activity level)
+ Budgeted total fixed marketing expenses
Note that the marketing expense budget is driven by the sales budget.
I. The research and development expense budget outlines the estimated expendi-
tures of research and development activities for the coming year.
J. The administrative expense budget consists of estimated expenditures for the over-
all organization and operation of the company.
Most of the administrative expenses are fixed costs with respect to sales.
K. The budgeted income statement is based on all of the component budgets.
The financial budgets are the second part of the master budget. The financial budgets usu-
ally include the cash budget, the budgeted balance sheet, the budgeted statement of cash
flows, and the budget for capital expenditures.
Note that the master budget and the associated financial budget are plans for one
year.
The capital expenditures budget is a financial plan outlining the expected acquisition of
long-term assets, typically over a number of years.
A. The Cash Budget
The cash budget is a detailed plan that shows all expected sources and uses of
cash. Much of the information needed to prepare the cash budget comes from the op-
erating budgets.
The cash budget includes five main sections:
1. The total cash available section shows that:
174 Chapter 8
The minimum cash balance is the lowest amount of cash on hand that the firm
finds acceptable.
4. The financing section of the cash budget consists of:
a. Borrowings.
b. Planned repayments, including interest.
5. The planned ending cash balance section reflects the inclusion of the minimum
cash balance, which was subtracted to find the cash excess or deficiency.
Review textbook Exhibit 8-4, which shows the cash budget equation.
Review textbook Schedule 12, which provides a numeric example of the cash budget.
IV. Operating Budgets for Merchandising and Service Firms Learning Objective #4
C. In a not-for-profit service firm, the sales budget identifies the level of various ser-
vices that will be offered for the coming year and the associated funds that will be
assigned to the services.
176 Chapter 8
2. The collection of all area and activity budgets representing a firm’s comprehensive plan
of action is the _________________________.
3. The _________________________ describes expected sales in units and dollars for the
coming period.
5. The budget that shows how many units must be produced to meet sales needs and satisfy
ending inventory requirements is the ______________________________.
7. The financial plan outlining the acquisition of long-term assets is the _____________
________________________________.
12. Planned ending inventory of finished goods in units and dollars is found in the
____________ ____________________________________________________.
13. The ____________________________ reveals the planned expenditures for all indirect man-
ufacturing items.
Budgeting for Planning and Control 177
14. ______________ is the process of setting standards, receiving feedback on actual perfor-
mance, and taking corrective action.
17. The ____________________________ are the part of the master budget that includes
the budgeted balance sheet, statement of cash flows, and the capital budget.
M U LT I P L E - C H O I C E Q U I Z
Complete each of the following statements by circling the letter of the best answer.
3. Morgan Company produces and sells laptop computers. It had 2,000 computers in finished
goods inventory at the end of the last year. The company expects to sell 20,000 computers
and would like to complete operations in this year with at least 2,500 completed computers
in inventory. There is no ending work-in-process inventory in either year. The laptop comput-
ers sell for $2,000 each. How many laptop computers would be produced for the next year?
a. 20,000
b. 20,500
c. 22,000
d. 22,500
e. 24,500
4.Reid Company is budgeting production of 100,000 units of product R for the month of Septem-
ber this year. Production of one unit of product R requires three units of material B. For ma-
terial B, the actual inventory units at September 1 were 22,000 units and budgeted invento-
ry units at September 30 are 24,000. How many units of material B is Reid planning to pur-
chase during September?
a. 328,000
b. 302,000
c. 298,000
d. 272,000
e. 250,000
5. Which of the following factors is not a responsibility of the budget committee?
a. Reviews the budget.
b. Provides policy guidelines.
c. Provides budgeting goals.
d. Resolves differences that may arise as the budget is prepared.
e. Prepares actual financial statements.
6. XYZ has forecast sales for the next three months as follows: January, 10,000 units; Febru-
ary, 15,000 units; and March, 20,000 units. Inventory as of January 1 is expected to be 2,000
units. Ending inventories should equal 25% of the coming month’s sales needs. How many
units should be produced in February?
a. 13,750 units
b. 15,000 units
c. 16,250 units
d. 18,000 units
e. none of the above
7. Acme Company has observed its accounts receivable collection pattern to be as follows:
40% in the month of the sale, 45% in the month following the sale, and 13% in the sec-
ond month following the sale. Sales for the last three months of the year were as follows:
October, $300,000; November, $450,000; and December, $625,000. Sales for January are
budgeted to be $375,000. What are the budgeted cash collections for January?
a. $375,000
b. $489,750
c. $495,750
d. $625,000
e. none of the above
Budgeting for Planning and Control 179
8. Scooter Corp. has forecast sales as follows: July, 30,000 units; August, 35,000 units; and
September, 40,000 units. Finished goods inventory as of July 1 is forecast to be 10,000
units. Finished goods inventory of 20% of the following month’s sales needs is desired.
Each finished unit requires 5 pounds of raw material. The raw materials inventory level on
July 1 was 202,500 pounds and the expected raw materials inventory level on July 31 will be
270,000 pounds. How many pounds of raw material should be purchased in July?
a. 27,000 pounds
b. 40,500 pounds
c. 135,000 pounds
d. 202,500 pounds
e. none of the above
9. Which of the following items would have to be included for a company preparing a schedule
of cash receipts and disbursements for the calendar year 2003?
a. The annual depreciation for 2003.
b. A purchase order issued in December 2003 for items to be delivered in February 2004.
c. Dividends declared in November 2003, to be paid in January 2004 to shareholders of
record as of December 2003.
d. The amount of uncollectible customer accounts for 2003.
e. Funds borrowed from a bank on a note payable taken out in June 2002 with an agree-
ment to pay the principal and all of the interest owed in December 2003.
10. Individual budget schedules are prepared to develop an annual comprehensive or mas-
ter budget. The budget schedule that would provide the necessary input data for the direct
labor budget would be the:
a. sales forecast.
b. raw materials purchases budget.
c. schedule of cash receipts and disbursements.
d. schedule of manufacturing overhead.
e. production budget.
12. Which of the following budgets would not be present for both for-profit and not-for-profit
service organizations?
a. sales budget
b. budgeted income statement
c. budgeted balance sheet
d. finished goods budget
e. cash budget
180 Chapter 8
PRACTICE TEST
EXERCISE 1
ABC Company has prepared a unit sales budget for the upcoming months as follows:
Month Units Month Units
January.................. 5,000 June....................... 30,000
February................ 7,500 July........................ 35,000
March..................... 10,000 August................... 25,000
April....................... 15,000 September............. 10,000
May........................ 20,000 October.................. 6,000
ABC has a policy to maintain inventory levels equal to 30% of the coming month’s sales require-
ments. Inventory on January 1 is projected to be 1,200 units.
Required:
Prepare a production budget for ABC Company for the next six months.
182 Chapter 8
EXERCISE 2
Resear Company sells modems. Resear desires to hold a finished goods inventory equal to
100% of the next month’s sales requirement of modems. The beginning finished goods inventory is
1,200 units. Forecasted unit sales for April and the next three months are as follows:
April May June July
800 850 925 1,000
The production of one finished unit requires 5 pounds of raw material. The company desires to
have a one-month supply of raw materials as the ending inventory for each month. The begin-
ning inventory of raw materials is 6,190 pounds.
Required:
Prepare a direct materials purchases budget (in pounds) for April.
Budgeting for Planning and Control 183
EXERCISE 3
Acorn Corp. has requested a cash budget for July and August. The following information has
been gathered:
a. Cash balance as of July 1: $35,000.
b. Actual and forecasted sales are as follows:
May June July August
Cash sales................... $25,000 $ 30,000 $ 40,000 $ 50,000
Credit sales................. 60,000 80,000 100,000 110,000
Total............................ $85,000 $110,000 $140,000 $160,000
c. Credit sales are collected 40% in the month of the sale, 35% in the month following the
sale, and 25% in the second month following the sale.
d. Inventory purchases average 55% of sales. Of these purchases, 65% are paid for in the
month of the purchase, with the remainder paid in the following month.
e. Operating expenses are paid in the month incurred. Expenses include $2,500 in rent, $6,000
in salaries, and $750 in utilities and miscellaneous expenses.
Required:
1. Prepare a schedule of cash collections on account for July and August.
EXERCISE 3 (Continued)
3. Prepare a schedule of cash disbursements for July and August.
“ C A N YO U ? ” C H E C K L I S T
Can you explain the role of budgeting in planning and control?
Can you describe the advantages of budgets for an organization?
Can you define and distinguish among the various budgets found in the operating budget?
Can you explain why all budgets depend on the sales budget?
Can you prepare a sales forecast and the resulting production budget?
Can you prepare a cash budget?
Can you describe how budgeting differs for a merchandising firm and a service firm?
ANSWERS
MULTIPLE-CHOICE QUIZ
1. d 3. b 5. e
2. d 4. b
6. c Sales + El – BI = 15,000 + (25% × 20,000) – (25% × 15,000) = 15,000 + 5,000 – 3,750 = 16,250 units
9. e 11. c 13. b
10. e 12. d
186 Chapter 8
PRACTICE TEST
EXERCISE 1
ABC Company
Production Budget
January February March April May June
Sales........................................... 5,000 7,500 10,000 15,000 20,000 30,000
Ending inventory......................... 2,250 3,000 4,500 6,000 9,000 10,500
Total needs................................. 7,250 10,500 14,500 21,000 29,000 40,500
Less: Beginning inventory.......... 1,200 2,250 3,000 4,500 6,000 9,000
Units to be produced................... 6,050 8,250 11,500 16,500 23,000 31,500
EXERCISE 2
Resear Company
Production Budget for April
April May June July
Sales.................................................................................... 800 850 925 1,000
Desired finished goods ending inventory, 100% of
next month’s sales.......................................................... 850 925 1,000
Total needs.......................................................................... 1,650 1,775 1,925
Less: Finished goods beginning inventory......................... 1,200 850 925
Units to be produced............................................................ 450 925 1,000
Resear Company
Raw Materials Budget for April
April May June
Production needs, 5 lbs. per finished goods unit................ 2,250 4,625 5,000
Desired raw materials ending inventory.............................. 4,625
Total needs.......................................................................... 6,875
Less: Raw materials beginning inventory........................... 6,190
Raw materials to be purchased........................................... 685
Budgeting for Planning and Control 187
EXERCISE 3
1. Acorn Corp.
Cash Collections on Account
May June July August
Cash sales..................................................................... $25,000 $30,000 $ 40,000 $ 50,000
Credit sales................................................................... 60,000 80,000 100,000 110,000
a
Collected in the month of the sale, 40%................. 40,000 44,000 d
b
Collected one month after the sale, 35%................ 28,000 35,000 e
c
Collected two months after the sale, 25%............... 15,000 20,000 f
Total cash collected...................................................... $ 123,000 $ 259,000
a d
$100,000 × 0.40 $110,000 × 0.40
b e
$80,000 × 0.35 $100,000 × 0.35
c f
$60,000 × 0.25 $80,000 × 0.25
3. Acorn Corp.
Cash Disbursement Schedule
June July August
a
Purchases costs at 55% of sales.......................................................... $60,500 $ 77,000 $ 88,000 e
Cash disbursement for purchases:
b
Payment in the month of purchase, 65%........................................ 50,050 57,200 f
c
Payment one month after purchase, 35%....................................... 21,175 26,950 g
d
Operating expenses.............................................................................. 9,250 9,250 h
Total cash disbursements..................................................................... $ 80,475 $ 93,400
a e
($40,000 + $100,000) × 0.55 ($50,000 + $110,000) × 0.55
b f
$77,000 × 0.65 $88,000 × 0.65
c g
$60,500 × 0.35 $77,000 × 0.35
d h
$2,500 + $6,000 + $750 $2,500 + $6,000 + $750
4. Acorn Corp.
Cash Budget
For the Months of July and August, 200X
July August
Beginning cash balance................................................................................................ $ 35,000 $ 77,525
Cash collections:
Cash sales............................................................................................................... 40,000 50,000
Credit sales:
Current month..................................................................................................... 40,000 44,000
One month after sales........................................................................................ 28,000 35,000
Two months after sales...................................................................................... 15,000 20,000
Total cash available...................................................................................................... $158,000 $226,525