1. Introduction to Management Accounting: The Master Budget
Chapter 20
HORNGREN ♦ HARRISON ♦ BAMBER ♦ BEST ♦ FRASER ♦ WILLETT

2. Objectives
1. Distinguish between financial accounting and management accounting, and use management accounting information for decision making.
2. Describe the value chain and classify costs by value-chain function
3. Distinguish direct costs from indirect costs
4. Distinguish among full product costs, inventoriable product costs and period costs

3. Objectives
5. Prepare the financial statements of a manufacturing company
6. Identify the benefits of budgeting
7. Prepare an operating budget for a company
8. Prepare the components of a financial budget
9. Use sensitivity analysis in budgeting.

4. The Functions of Management
Planning
Acting
Controlling
Feedback

5. Objective 1 Distinguish between financial accounting and management
accounting, and use
management accounting
information for decision-making

6. Management Accounting and Financial Accounting
Primary Users
Internal managers of the business
Investors, Creditors,
Government authorities (ATO, ASIC etc.)

7. Management Accounting and Financial Accounting
Purpose of Information
Help managers plan and
control business operations
Help investors, creditors, and others make
investment, credit, and other decisions

8. Management Accounting and Financial Accounting
Focus and Time Dimension
Relevance
Reliability, objectivity, and focus on the past

9. Management Accounting and Financial Accounting
Type of Report
Internal reports not restricted by GAAP
Financial statements restricted by GAAP

10. Management Accounting and Financial Accounting
Verification
No independent audit
Annual independent audit

11. Management Accounting and Financial Accounting
Scope of Information
Detailed reports on
parts of the company
Summary reports primarily
on the company as a whole

12. Management Accounting and Financial Accounting
Behavioral Implications
Concern about how reports
will affect employees behavior
Concern about adequacy of disclosure

13. Service, Retail, and Manufacturing Companies
Service Company:
provides intangible services,
rather than tangible products
Retail Company:
resells products previously
bought from suppliers

14. Service, Retail, and Manufacturing Companies
Manufacturing Company:
uses labour, plant, and equipment to convert
raw materials into finished products
Materials inventory
Work in process inventory
Finished goods inventory

15. Describe the value chain value-chain functions.
Objective 2
Describe the value chain
and classify costs by
value-chain functions.

16. Value Chain Research and Development Design Production or Purchases
Marketing
Distribution
Customer
Services

17. Distinguish direct costs
Objective 3
Distinguish direct costs
from indirect costs.

18. Cost Objects, Direct Costs, and Indirect Costs
Cost objects are anything for which a separate measurement of costs is desired.
Cost drivers are any factors that affect cost.

19. Cost Objects, Direct Costs, and Indirect Costs
What are examples of cost objects?
individual products
alternative marketing strategies
geographic segments of the business
departments

20. Cost Objects, Direct Costs, and Indirect Costs
What are direct costs?
Direct costs are those costs that can be specifically traced to the cost object.
What are indirect costs?
Indirect costs are costs that cannot be specifically traced to the cost object.

21. Distinguish among full product costs, inventoriable product
Objective 4
Distinguish among full product
costs, inventoriable product
costs, and period costs.

22. Product Costs What are product costs?
They are the costs to produce (or purchase) tangible products intended for sale.
There are two types of product costs:
Full
product
costs
Inventoriable
product
costs

23. External Reporting
Inventoriable
product
costs
Period
costs

24. Inventoriable Product Costs
For external reporting, a retailers’ inventoriable product costs includes only costs that are incurred in the purchase of goods.
Inventoriable costs are an asset.
Period costs flow as expenses directly to the statement of financial performance.

25. Inventoriable Product Costs
For external reporting, manufacturers’ inventoriable product costs include raw materials plus all other costs incurred in the manufacturing process.
Inventoriable product costs are incurred only in the third element of the value chain.
Costs incurred in other elements of the value chain are period costs.

26. Inventoriable Product Costs
Direct
Materials
Direct
Labour
Indirect
Labour
Indirect
Materials
Other
Manufacturing Overhead

27. Inventoriable Product Costs
Direct
Materials
Direct
Labour
Prime Costs = Direct Materials + Direct Labour

28. Inventoriable Product Costs
Direct
Labour
Indirect
Labour
Indirect
Materials
Other
Conversion Costs = Direct Labour
+ Manufacturing Overhead

29. Prepare the financial statements of a manufacturing company.
Objective 5
Prepare the financial statements
of a manufacturing company.

30. Financial Statements for Service Companies
There is no inventory and thus no inventoriable costs.
The statement of financial performance does not include cost of goods sold.
Revenues – Expenses = Net Profits

31. Financial Statements for Retail Companies
Statement of Financial
Position
Statement of Financial
Performance
Inventoriable
Costs
Sales Revenue
when
sales
occur
deduct
Purchases of
Inventory plus
Freight-In
Inventory
Cost of
Goods Sold
equals Gross Profit
deduct
Period
Costs
Operating
Expenses
equals Net Profit

32. Financial Statements for Manufacturing Companies
Statement of Financial
Performance
Statement of Financial
Position
Inventoriable
Costs
Sales Revenue
Materials
Inventory
when
sales
occur
deduct
Finished
Goods
Inventory
Cost of
Goods Sold
equals Gross Profit
deduct
Work in
Process
Inventory
Period
Costs
Operating
Expenses
equals Net Profit

33. Manufacturing Company Example
Kendall Manufacturing Company:
Beginning and ending work-in-process inventories were $20,000 and $18,000.
Direct materials used were $70,000.
Direct labour was $100,000.
Manufacturing overhead incurred was $150,000.

34. Manufacturing Company Example
What is the cost of goods manufactured?
Beginning work in process $ 20,000
Direct labour $100,000
Direct materials ,000
Mfg. overhead , ,000
Ending work in process ,000
Cost of goods manufactured $322,000

35. Manufacturing Company Example
Kendall Manufacturing Company’s beginning finished goods inventory was $60,000 and its ending finished goods inventory was $55,000.
How much is the cost of goods sold?

36. Manufacturing Company Example
Beg. finished goods inventory $ 60,000
+ Cost of goods manufactured ,000
= Cost of goods available for sale $382,000
– Ending finished goods ,000
= Cost of goods sold $327,000

37. Manufacturing Company Example
Kendall Manufacturing Company had sales of $627,000 for the period.
How much is the gross profit?
Sales $627,000
– Cost of goods sold ,000
= Gross profit $300,000

38. Manufacturing Company Example
Kendall Manufacturing Company had operating expenses as follows:
Sales salaries and commissions $ 80,000 Delivery expense ,000 Administrative expenses ,000 Total $120,000
What is Kendall’s net profit?

39. Manufacturing Company Example
Gross profit $300,000
– Operating expenses ,000
= Net Profit $180,000

40. Flow of Costs through a Manufacturer’s Accounts
Work in Process Inventory
Beginning inventory
Direct materials used
Direct labour
Manufacturing overhead
Total manufacturing costs
to account for
Ending inventory
Cost of goods manufactured
Direct Materials Inventory
Beginning inventory
Purchases and
freight-in
Direct materials available for use
Ending inventory
Direct materials used

41. Flow of Costs through a Manufacturer’s Accounts
Finished Goods Inventory
Beginning inventory
Cost of goods manufactured
Cost of goods available for sale
Ending inventory
Cost of goods sold

42. Objective 6
Identify the benefits
of budgeting.

43. requires managers to plan promotes coordination motivates employees to
Benefits of Budgeting
requires managers to plan
promotes coordination
and communication
helps managers
evaluate performance
motivates employees to
achieve company goals

44. Components of the Master Budget
Inventory
Budget
____ ____
Sales
Budget
____ ____
Purchases
Budget
____ ____
Cost of
Goods Sold
Budget
____ ____
Operating
Expenses
Budget
____ ____
Budgeted
Statement of
Financial
Performance
____ ____
Operating Budget

45. Components of the Master Budget
Cash
Budget
_____ _____
Budgeted
Statement of
Financial
Performance
_____ _____
Capital
Expenditures
Budget
_____ _____
Financial Budget
Budgeted
Statement of
Financial
Position
_____ _____
Budgeted
Statement
of Cash Flows
_____ _____

46. Preparing the Master Budget
(An expanded example in your textbook pages 838 – 45)
Suppose you manage Whitewater Sporting Goods store No. 18.
Selected parts of the master budget will be prepared for Store No. 18 for October, November, December and January.

47. Preparing the Master Budget
Sales are 60% cash and 40% on credit.
Credit sales are collected in the month following the sale.
Accounts receivable on September 30 amounted to $16,000.
How much were total sales in Sept.?
$16,000 ÷ .40 = $40,000

48. Preparing the Master Budget
Projected Sales
October……………. $50,000
November……….… $80,000
December………..… $60,000
January……..……… $50,000

49. Preparing the Master Budget
Whitewater maintains inventory equal to $20,000 plus 80% of the budgeted cost of goods sold for the following month.
Cost of goods sold averages 70% of sales.
What is the ending inventory on Sept. 31?
$20,000 + (0.80 × 0.70 × October sales of $50,000) = $48,000

50. Preparing the Master Budget
What is the beginning inventory in September?
$20,000 + (0.80 × 0.70 × $40,000) = $42,400
Opening Inventory $ 42,400
Plus Purchases $ ?
Minus Closing Inv. $ 48,000
Equals COGS (70% x $40,000) $ 28,000
? = $ 33,600

51. Preparing the Master Budget
Whitewater pays for inventory as follows: 50% during the month of purchase and 50% during the next month.
September purchases were $33,600.
How much was paid in September for September’s purchases?
$33,600 × 50% = $16,800

52. Prepare an operating budget
Objective 7
Prepare an operating budget
for a company.

53. Sales Budget (Schedule A)
Sales revenue is the key measure of business activity.
The budgeted total sales revenue for each product is the sales price multiplied by the expected number of units sold.

54. Sales Budget (Schedule A)
Oct Nov Dec Jan.
Cash sales 60% $30,000 $48,000 $36,000 $30,000
Credit sales 40% 20,000 32, , ,000
Total $50,000 $80,000 $60,000 $50,000
Total sales Oct through Jan = $240,000

55. Purchases, Cost of Goods Sold, and Inventory Budget
Cost of goods sold = 70% × sales
How much are the cost of goods sold for November?
70% × $80,000 = $56,000
What is the desired ending inventory for October?
$20,000 + (80% × $56,000) = $64,800

56. Purchases, Cost of Goods Sold, and Inventory Budget
Beginning inventory + Purchases
– Ending inventory = Cost of goods sold
Cost of goods sold + Ending inventory
– Beginning inventory = Purchases

57. Schedule B Oct. Nov. Dec. Jan. Cost of goods sold
(70% × sales) $35,000 $56,000 $42,000 $35,000
Desired ending
inventory ,800 53, , ,400
Total required $99, , , ,400
Beginning inv , , , ,000
Purchases $51,800 $44,800 $36,400 $29,400

58. Operating Expenses Budget
Assume that Whitewater incurs $5,200 of fixed expenses every month and that commissions and other variable expenses equal 20% of sales.
What is the operating expenses budget (Schedule C)?

59. Operating Expenses Budget (Schedule C)
Oct Nov Dec Jan.
Variable expenses
(From Schedule A)
20% of sales $ 10,000 $ 16,000 $12,000 $10,000
Fixed expenses 5, , , ,200
Total $15, $21,200 $17,200 $15,200
Total wages and commission: $68,800

60. Budgeted Statement of Financial Performance
Whitewater Sporting Goods Store No. 18
Budgeted Statement of Financial Performance
Four Months Ending January 31, 2005
Amount Source
Sales $240,000 Schedule A
Cost of goods sold ,000 Schedule B
Gross profit $ 72,000
Operating expense ,800 Schedule C
Net profit $ 3,200

61. Prepare the components
Objective 8
Prepare the components
of a financial budget.

62. Preparing the Financial Budget
The financial budget includes:
Cash budget
Budgeted
Statement of
Financial Position

63. Preparing the Cash Budget
The cash budget has the following major parts:
cash collections from customers (Schedule D)
cash disbursements for purchases (Schedule E)
cash disbursements for operating expenses (Schedule F)
capital expenditures (not illustrated in this chapter)

64. Cash Collections from Customers (Schedule D)
From Schedule A
Oct Nov Dec Jan.
Cash sales $30,000 $48,000 $36,000 $30,000
Collections of last
month’s credit sales 16,000* 20, , ,000
Total $46,000 $68,000 $68,000 $54,000
Total collections: $236,000
*16,000 = September 30 accounts receivable

65. Cash Disbursements for Purchases (Schedule E)
From Schedule B
Oct Nov Dec Jan.
Payment of last
month’s purchases $18,800 $25,900 $22,400 $18,200
Payment of this
month’s purchases 25, , , ,700
Total $42,700 $48,300 $40,600 $32,900
Total disbursements: $164,500

66. Cash Disbursements for Operating Expenses (Schedule F)
From Schedule C
Oct Nov Dec Jan.
Payment of last
month’s expenses $ 4,250 $ 5,000 $7,250 $ 5,750
Payment of this
month’s expenses , , , ,000
Rent and Misc , , , ,500
Total $13,750 $18,250 $18,000 $15,250
Total disbursements: $65,250

67. Cash Budget Whitewater Sporting Goods Store No. 18 Cash Budget
Four Months Ending January 31, 2005
Budgeted cash receipts $236,000
Budgeted cash disbursements
Purchases $164,500
Operating expenses , ,750
Budgeted cash increase $ 6,250

68. Preparing the Budgeted Statement of Financial Position
Assets, liabilities, and owners’ equity are projected based upon the previous schedules.
Assume that the cash balance on September 30 was $15,000.
What is the budgeted cash balance on January 31?
$15,000 + $6,250 expected increase = $21,250

69. Use sensitivity analysis
Objective 9
Use sensitivity analysis
in budgeting.

70. Budgeting and Sensitivity Analysis
Sensitivity analysis helps managers plan for different courses of action.
This type of “what if” analysis shows the result of changing an underlying assumption in the budgeting process.
Sensitivity analysis may affect very specific plans.

71. End of Chapter 20