Presentation on theme: "The Use of Budgets in Planning and Decision Making"— Presentation transcript:
1 The Use of Budgets in Planning and Decision Making Chapter 9The Use of Budgets in Planning and Decision Making
2 Topics to be Discussed Introduction The Budget Development Process Budgets for Planning, Operating and ControlAdvantages of Budgeting
3 IntroductionBudgets are plans dealing with the acquisition and use of resources over a specified time period.
4 Introduction Budgets can be in terms of: Monetary or financial Time Acquisition and use of thousands of materialsManufacturing of hundreds of productsAttendance at a baseball game
5 Introduction Pause and Reflect Have you ever prepared a budget? Was it a monetary or non-monetary budget?How did you use it?
6 The Budget Development Process Traditionally, budgeting is a bottom-up process dependent on departmental managers to provide detailed plans for the upcoming month, quarter or year.
7 The Budget Development Process Zero-Based Budgets require managers to build budgets from the ground up each year rather than just add a percentage increase to last year’s numbers.Why shouldn’t I just use 10% more than last year for everything?
8 The Budget Development Process Key ConceptBudgets must start with a top-down strategic plan that guides and integrates the whole company and its individual budgets.
9 The Budget Development Process Key ConceptBudgeting is a management task, not a bookkeeping task.
10 The Budget Development Process Budgeting is an integral part of the planning, operating, and control activities of managers.Planning: developing objectives and goalsOperating Day-to-Day management decisionsBUDGETINGControl: Insuring that objectives and goals are met, comparing actual to budget
11 The Budget Development Process Key ConceptBudgets are used throughout the planning, operating, and controlling activities of managers.
12 The Budget Development Process The operating cycle focuses on cash, thus budgeting for cash needs is crucial.Disbursement of cash for manufacturing costs or purchases of inventoryCash on handSale of ProductCollection of cash from customers
13 Advantages of Budgeting The budgeting process forces communication throughout the organization.The budgeting process forces managements to focus of the future and not be distracted by daily crisis in the organization.
14 Advantages of Budgeting The budgeting process can help management identify and deal with potential bottlenecks or constraints before they become major problems.The budgeting process can increase the coordination of organizational activities and help facilitate goal congruence.The budgeting process can define specific goals and objectives that can become benchmarks, or standards of performance for evaluating future performance.
15 More Topics to Discuss Budgeting for Sales Operating Budgets-An ExampleBudgeting for a Traditional Manufacturing Company with InventoryManufacturing Overhead BudgetCash Budgets
16 Budgeting for SalesIn large companies, preparation of the sales forecast is usually accomplished by the marketing department and requires significant effort in the area of market research to arrive at an accurate forecast of expected sales.In smaller companies, the sales forecast may be made by an individual or small group of managers.
17 Budgeting for Sales: Some Ways to Forecast Sales Anticipated marketing or advertising plansThe impact of new products or changes in product mix on the entire product lineOther factors such as political and legal events and weather changes.
18 Budgeting for Sales Pause and Reflect What unique factors might a CPA firm specializing in tax planning and the preparation of tax return consider in forecasting sales?
19 Budgeting for Sales Key Concept Budgets are future oriented and make extensive use of estimates and forecasts.
20 Operating Budgets: An Example Produces bottled orange juice from fruit concentrateOnly ingredients are water and juice concentrateJuice is blended, pasteurized and bottledProcess is heavily automatedEach machine is run by one employee and can process 10 bottles of juice per minute or 600 bottles per hour
21 Inventory Policy10% of next month’s expected sales in ending inventory of finished goods20% of next month’s expected production of bottles in ending inventory of materials.
22 Operating Budgets: An Example Pause and ReflectWhat kind of costing system is Tina’s likely to use?
23 Operating Budgets: An Example Sales ForecastJanuaryFebruaryMarchAprilMay250,000 Bottles325,000 Bottles450,000 Bottles500,000 Bottles400,000 Bottles
24 Operating Budgets: An Example Sales BudgetJanuary250,000$1.05$262,500February325,000$1.05$341,250March450,000$1.05$472,5001st Quarter1,025,000$1.05$1,076,250Projected Sales (bottles)Price per bottleTotal Projected Sales
25 Operating Budgets: An Example Basic Production BudgetSales forecast (in units)Projected ending inventoryTotal projected production needsBeginning InventoryProjected production volume+-
26 Operating Budgets: An Example Production BudgetJan250,00032,500282,50025,000257,500Feb325,00045,000370,00032,500337,500March450,00050,000500,00045,000455,000Total Qtr.1,025,00050,0001,075,00025,0001,050,000Sales Forecast (bottles)Projected ending Inventory (+)Total projected production needsBeginning inventory (-)Projected production bottles
27 Operating Budgets: An Example Materials Purchases Budget - BottlesJan257,50067,500325,00051,500273,500$27,350Feb337,50091,000428,50067,500361,000$36,100March455,00098,000553,00091,000462,000$46,200Total Qtr.1,050,00098,0001,148,00051,5001,096,500$109,650Projected production (bottles)Projected ending Inventory (+)Total projected needsProjected beginning Inventory (-)Bottles to be purchasedProjected purchases x $.10/bottle
28 Operating Budgets: An Example Direct Labor BudgetJan257,5001 hour429.17$15/hr$6,438Feb337,5001 hour562.5$15/hr$8,438March455,0001 hour758.33$15/hr$11,3751st Qtr.1,050,0001 hour1,750 hrs$15/hr$26,250Projected production (bottles)Direct labor time per 600 bottlesDirect labor hours for production*Direct labor rate per hourProjected DL cost*Projected production/600
29 Operating Budgets: An Example Pause and ReflectWhy are we not concerned with inventories in the direct labor purchases budget?
30 Operating Budgets: An Example Manufacturing Overhead BudgetJan429.17$54.75$23,497123,333$146,830Feb562.5$54.75$30,797123,333$154,130March758.33$54.75$30,797123,333$164,8521st Qtr.1,750$54.75$95,813123,333$465,813Budgeted Machine HrsVariable Overhead RateProjected Variable OHBudgeted Fixed OHTotal Projected Manufacturing OH
31 Operating Budgets: An Example Total Manufacturing Cost BudgetJan$41,02727,3506,438146,830$221,645Feb$54,15036,1008,438154,130$252,818March$69,30043,20011,375164,852$291,7271st Qtr.$164,477109,65026,250465,813$766,189Projected material cost-concentratePMC – bottlesProjected DL costsProjected MO costsTotal projected manufacturing costs
32 Cash BudgetsMany managers consider managing the cash flow to be the single most important consideration in running a successful business.
33 Cash BudgetsAll of the sales of Tina’s are on account. Collections are estimated as follows:50% in the month of the sale35% in the month following the sale15% in the second month following the sale
34 Cash Budgets Cash Receipts Nov Dec Jan Feb Mar Sales $200, $250, $262, $341, $472,500Cash ReceiptsNov sales % % %Dec sales % % %Jan sales % % %Feb sales % %March sales %Cash Receipts for 1st Qtr.
35 Cash Budgets Cash Receipts Jan Feb March 1st Qtr. 15% Nov $30,000 $30,00035% Dec $87, ,50015% Dec $37, ,50050% Jan $131, ,25035% Jan $91, ,87515% Jan $39, ,37550% Feb $170, ,62535% Feb $119, ,43850% March $236, ,250Total $248,750 $300,000 $395,063 $943,183
36 Cash Budgets Cash Disbursement Budget- Operating Activities Cash Disbursements include:Material Purchases for ConcentrateMaterial Purchases for BottlesDirect LaborManufacturing OverheadSelling and Administrative Costs
37 Cash Budgets Pause and Reflect Can you trace each of the amounts in the cash disbursements budget back to the original budget in which it appears?
39 Cash Budgets Summary Cash Budget, continued Cash flows form financing activitiesPayment of dividendsInterest on long-term debtBorrowing from line of creditRepayments of line of creditFinal cash balance
40 More Budget Topics Budgeted Financial Statements Budgets for a Manufacturing Company in a JIT EnvironmentBudgets for Merchandising Companies and Service CompaniesLife Cycle Costs, the Value Chain and Budgeting
41 More Budget TopicsUsing the budgets, management prepares pro-forma (budgeted) financial statements. They are used for internal planning purposes and to provide information to external users, such as a bank when requesting a loan.What do I do with all of these budgets?
43 Budgeted Financial Statements If the budget is prepared as a template using spreadsheet software, changes in assumptions can be reflected in the entire budget in a few seconds.
44 Other Budgeting Topics Life Cycle Costs, the Value Chain, and BudgetingBudgeting in an International EnvironmentNonmonetary BudgetsStatic Versus Flexible BudgetsABC and Flexible Budgets
45 Life Cycle Costs, the Value Chain and Budgeting In making decisions to introduce new products, the forecasted sales over the life of the product must exceed its life cycle costs. Given that a significant % of total costs are incurred before a new product is actually produced and sold, early and accurate budgeting is critically important in making good decisions regarding the introduction of new products.
46 Budgeting in an International Environment Considerations:Translating foreign currencyPredicting inflation rates and prices in unstable economiesPredicting sales in countries with different consumer preferencesDealing with different labor laws, social customs, and norms affecting wage rates and the productivity of workers
47 Nonmonetary BudgetsTime Budgets: to plan the number of hours expected to be incurred in each engagement (CPA firm and law offices)Customer Satisfaction Measures: includes the number of retuned or defective items, the number of customer complaints, time waiting to be served
48 Static vs Flexible Budgets Static budgets are set at the beginning of the period and remain constant throughout the budget period.What if my sales are not what I projected?Flexible budgets take differences in cost and revenue due to volume differences out of the analysis by budgeting for labor (and other costs) based on the actual number of units produced.I know. I’ll use flexible budgets.
49 Static vs Flexible Budgets Key ConceptFlexible budgets are based on the actual number of units produced rather than the budgeted units of production.
50 Static vs Flexible Budgets Static Budget ActualProjected production (bottles) , ,000Projected direct labor costs $6, $6,300Difference $138 favorableFlexible Budget ActualProjected production (bottles) , ,000Projected direct labor costs $6, $6,300Difference $50 unfavorable
51 ABC and Flexible Budgets Tina’s would budget costs for moving materials based on the budgeted cost per move and the actual number of moves made during the month.Tina’s would compute the per-unit budget amounts for other batch-level and product-level costs and include those in the flexible budget along with the regular variable costs and fixed costs.
52 End of Chapter 9The budgeting process is worth the effort.