Profit Planning
Financial Management
The Basic Framework of Budgeting
A budget is a detailed quantitative plan for
acquiring and using financial and other resources
over a specified forthcoming time period.
1. The act of preparing a budget is called
budgeting.
2. The use of budgets to control an
organization’s activities is known
as budgetary control.
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Planning and Control
Planning – Control –
involves developing involves the steps taken by
objectives and management to increase
preparing various the likelihood that the
budgets to achieve objectives set down while
those objectives. planning are attained and
that all parts of the
organization are working
together toward that goal.
Slide 3
Advantages of Budgeting
Define goals
and objectives
Communicate Think about and
plans plan for the future
Advantages
Coordinate Means of allocating
activities resources
Uncover potential
bottlenecks
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Responsibility Accounting
Managers should be held
responsible for those
items - and only those
items - that they can
actually control
to a significant extent.
Slide 5
Choosing the Budget Period
Operating Budget
2008 2009 2010 2011
Operating budgets ordinarily
A continuous budget is a
cover a one-year period
12-month budget that rolls
corresponding to a company’s
forward one month (or quarter)
fiscal year. Many companies
as the current month (or quarter)
divide their annual budget
is completed.
into four quarters.
Slide 6
Self-Imposed Budget
Top Management
Middle Middle
Management Management
Supervisor Supervisor Supervisor Supervisor
A self-imposed budget or participative budget is a budget that is
prepared with the full cooperation and participation of managers
at all levels.
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Advantages of Self-Imposed Budgets
1. Individuals at all levels of the organization are viewed as
members of the team whose judgments are valued by top
management.
2. Budget estimates prepared by front-line managers are
often more accurate than estimates prepared by top
managers.
3. Motivation is generally higher when individuals participate
in setting their own goals than when the goals are
imposed from above.
4. A manager who is not able to meet a budget imposed
from above can claim that it was unrealistic. Self-imposed
budgets eliminate this excuse.
Slide 8
Self-Imposed Budgets
Self-imposed budgets should be reviewed
by higher levels of management to
prevent “budgetary slack.”
Most companies issue broad guidelines in
terms of overall profits or sales. Lower
level managers are directed to prepare
budgets that meet those targets.
Slide 9
Human Factors in Budgeting
The success of a budget program depends on three
important factors:
[Link] management must be enthusiastic and
committed to the budget process.
[Link] management must not use the budget to
pressure employees or blame them when
something goes wrong.
[Link] achievable budget targets are usually
preferred when managers are rewarded based on
meeting budget targets.
Slide 10
The Budget Committee
A standing committee responsible for
overall policy matters relating to the budget
coordinating the preparation of the budget
resolving disputes related to the budget
approving the final budget
Slide 11
The Master Budget: An Overview
Sales budget
Selling and
Ending inventory administrative
Production budget
budget budget
Direct materials Direct labor Manufacturing
budget budget overhead budget
Cash Budget
Budgeted
Budgeted
income
balance sheet
statement
Slide 12
PROFIT PLANNING: Step-by-Step Guide
Sales Budget & Schedule
of Expected Cash
Collections
Slide 13
Budgeting Example
Royal Company is preparing budgets for the
quarter ending June 30.
Budgeted sales for the next five months are:
April 20,000 units
May 50,000 units
June 30,000 units
July 25,000 units
August 15,000 units.
The selling price is $10 per unit.
Slide 14
The Sales Budget
The individual months of April, May, and June are
summed to obtain the total budgeted sales in units
and dollars for the quarter ended June 30th
Slide 15
Expected Cash Collections
All sales are on account.
Royal’s collection pattern is:
70% collected in the month of sale,
25% collected in the month following sale,
5% uncollectible.
The March 31 accounts receivable
balance of $30,000 will be collected in full.
Slide 16
Expected Cash Collections
Slide 17
Expected Cash Collections
From the Sales Budget for April.
Slide 18
Expected Cash Collections
From the Sales Budget for May.
Slide 19
Quick Check
What will be the total cash collections for
the quarter?
a. $700,000
b. $220,000
c. $190,000
d. $905,000
Slide 20
Quick Check
What will be the total cash collections for
the quarter?
a. $700,000
b. $220,000
c. $190,000
d. $905,000
Slide 21
Expected Cash Collections
Slide 22
PROFIT PLANNING: Step-by-Step Guide
Production Budget
Slide 23
The Production Budget
Sales Production
Budget Budget
and
Expected
Cash
Collections
The production budget must be adequate to
meet budgeted sales and to provide for
the desired ending inventory.
Slide 24
The Production Budget
The management at Royal Company wants
ending inventory to be equal to 20% of the
following month’s budgeted sales in units.
On March 31, 4,000 units were on hand.
Let’s prepare the production budget.
Slide 25
The Production Budget
Slide 26
The Production Budget
Budgeted May sales 50,000
Desired ending inventory % 20%
March 31
Desired ending inventory 10,000
ending inventory
Slide 27
Quick Check
What is the required production for May?
a. 56,000 units
b. 46,000 units
c. 62,000 units
d. 52,000 units
Slide 28
Quick Check
What is the required production for May?
a. 56,000 units
b. 46,000 units
c. 62,000 units
d. 52,000 units
Slide 29
The Production Budget
Slide 30
The Production Budget
Assumed ending inventory.
Slide 31
PROFIT PLANNING: Step-by-Step Guide
Direct Materials Budget &
Schedule of Expected
Cash Disbursements for
Purchases of Materials
Slide 32
The Direct Materials Budget
At Royal Company, five pounds of material are
required per unit of product.
Management wants materials on hand at the
end of each month equal to 10% of the
following month’s production.
On March 31, 13,000 pounds of material are
on hand. Material cost is $0.40 per pound.
Let’s prepare the direct materials budget.
Slide 33
The Direct Materials Budget
From production budget
Slide 34
The Direct Materials Budget
Slide 35
The Direct Materials Budget
March 31 inventory
10% of following month’s Calculate the materials to
production needs. be purchased in May.
Slide 36
Quick Check
How much materials should be purchased in May?
a. 221,500 pounds
b. 240,000 pounds
c. 230,000 pounds
d. 211,500 pounds
Slide 37
Quick Check
How much materials should be purchased in May?
a. 221,500 pounds
b. 240,000 pounds
c. 230,000 pounds
d. 211,500 pounds
Slide 38
The Direct Materials Budget
Slide 39
The Direct Materials Budget
Assumed ending inventory
Slide 40
Expected Cash Disbursement for Materials
Royal pays $0.40 per pound for its materials.
One-half of a month’s purchases is paid for in the
month of purchase; the other half is paid in the
following month.
The March 31 accounts payable balance is
$12,000.
Let’s calculate expected cash disbursements.
Slide 41
Expected Cash Disbursement for Materials
Slide 42
Expected Cash Disbursement for Materials
Compute the expected cash
disbursements for materials
for the quarter.
140,000 lbs. × $0.40/lb. = $56,000
Slide 43
Quick Check
What are the total cash disbursements for the
quarter?
a. $185,000
b. $ 68,000
c. $ 56,000
d. $201,400
Slide 44
Quick Check
What are the total cash disbursements for the
quarter?
a. $185,000
b. $ 68,000
c. $ 56,000
d. $201,400
Slide 45
Expected Cash Disbursement for Materials
Slide 46
PROFIT PLANNING: Step-by-Step Guide
Direct Labor
Budget
Slide 47
The Direct Labor Budget
At Royal, each unit of product requires 0.05 hours (3
minutes) of direct labor.
The Company has a “no layoff” policy so all employees
will be paid for 40 hours of work each week.
For purposes of our illustration assume that Royal has a
“no layoff” policy, workers are pay at the rate of $10 per
hour regardless of the hours worked.
For the next three months, the direct labor workforce will
be paid for a minimum of 1,500 hours per month.
Let’s prepare the direct labor budget.
Slide 48
The Direct Labor Budget
From production budget.
Slide 49
The Direct Labor Budget
Slide 50
The Direct Labor Budget
Greater of labor hours required
or labor hours guaranteed.
Slide 51
The Direct Labor Budget
Slide 52
Quick Check
What would be the total direct labor cost for
the quarter if the company follows its no lay-
off policy, but pays $15 (time-and-a-half) for
every hour worked in excess of 1,500 hours
in a month?
a. $79,500
b. $64,500
c. $61,000
d. $57,000
Slide 53
Quick Check
What would be the total direct labor cost for
the quarter if the company follows its no lay-
off policy, but pays $15 (time-and-a-half) for
every hour worked in excess April ofMay
1,500June
hours Quarter
Labor hours required 1,300 2,300 1,450
in a month? Regular hours paid 1,500 1,500 1,500 4,500
a. $79,500 Overtime hours paid - 800 - 800
b. $64,500 Total regular hours 4,500 $10 $ 45,000
Total overtime hours 800 $15 $ 12,000
c. $61,000 Total pay $ 57,000
d. $57,000
Slide 54
PROFIT PLANNING: Step-by-Step Guide
Manufacturing
Overhead Budget
Slide 55
Manufacturing Overhead Budget
At Royal, manufacturing overhead is applied to units
of product on the basis of direct labor hours.
The variable manufacturing overhead rate is $20 per
direct labor hour.
Fixed manufacturing overhead is $50,000 per month,
which includes $20,000 of noncash costs (primarily
depreciation of plant assets).
Let’s prepare the manufacturing overhead budget.
Slide 56
Manufacturing Overhead Budget
Direct Labor Budget.
Slide 57
Manufacturing Overhead Budget
Total mfg. OH for quarter $251,000
= $49.70 per hour *
Total labor hours required 5,050
* rounded
Slide 58
Manufacturing Overhead Budget
Depreciation is a noncash charge.
Slide 59
Ending Finished Goods Inventory Budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 lbs. $ 0.40 $ 2.00
Direct labor 0.05 hrs. $ 10.00 0.50
Manufacturing overhead 0.05 hrs. $ 49.70 2.49
$ 4.99
Budgeted finished goods inventory
Ending inventory in units 5,000
Unit product cost $ 4.99
Ending finished goods inventory $ 24,950
Direct materials
budget and information.
Slide 60
Ending Finished Goods Inventory Budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 lbs. $ 0.40 $ 2.00
Direct labor 0.05 hrs. $ 10.00 0.50
Manufacturing overhead 0.05 hrs. $ 49.70 2.49
$ 4.99
Budgeted finished goods inventory
Ending inventory in units 5,000
Unit product cost $ 4.99
Ending finished goods inventory $ 24,950
Direct labor budget.
Slide 61
Ending Finished Goods Inventory Budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 lbs. $ 0.40 $ 2.00
Direct labor 0.05 hrs. $ 10.00 0.50
Manufacturing overhead 0.05 hrs. $ 49.70 2.49
$ 4.99
Budgeted finished goods inventory
Ending inventory in units 5,000
Unit product cost $ 4.99
Ending finished goods inventory ?
Total mfg. OH for quarter $251,000
= $49.70 per hour *
Total labor hours required 5,050
Slide 62
Ending Finished Goods Inventory Budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 lbs. $ 0.40 $ 2.00
Direct labor 0.05 hrs. $ 10.00 0.50
Manufacturing overhead 0.05 hrs. $ 49.70 2.49
$ 4.99
Budgeted finished goods inventory
Ending inventory in units 5,000
Unit product cost $ 4.99
Ending finished goods inventory $ 24,950
Production Budget.
Slide 63
PROFIT PLANNING: Step-by-Step Guide
Selling and
Administrative
Expense Budget.
Slide 64
Selling and Administrative Expense Budget
At Royal, the selling and administrative expense budget is
divided into variable and fixed components.
The variable selling and administrative expenses are $0.50
per unit sold.
Fixed selling and administrative expenses are $70,000 per
month.
The fixed selling and administrative expenses include
$10,000 in costs – primarily depreciation – that are not cash
outflows of the current month.
Let’s prepare the company’s selling and administrative
expense budget.
Slide 65
Selling and Administrative Expense Budget
Calculate the selling and administrative
cash expenses for the quarter.
Slide 66
Quick Check
What are the total cash disbursements for
selling and administrative expenses for the
quarter?
a. $180,000
b. $230,000
c. $110,000
d. $ 70,000
Slide 67
Quick Check
What are the total cash disbursements for
selling and administrative expenses for the
quarter?
a. $180,000
b. $230,000
c. $110,000
d. $ 70,000
Slide 68
Selling Administrative Expense Budget
Slide 69
PROFIT PLANNING: Step-by-Step Guide
Cash Budget
Slide 70
Format of the Cash Budget
The cash budget is divided into four sections:
1. Cash receipts section lists all cash inflows excluding cash
received from financing;
2. Cash disbursements section consists of all cash payments
excluding repayments of principal and interest;
3. Cash excess or deficiency section determines if the
company will need to borrow money or if it will be able to
repay funds previously borrowed; and
4. Financing section details the borrowings and repayments
projected to take place during the budget period.
Slide 71
The Cash Budget
Assume the following information for Royal:
Maintains a 16% open line of credit for $75,000
Maintains a minimum cash balance of $30,000
Borrows on the first day of the month and repays
loans on the last day of the month
Pays a cash dividend of $49,000 in April
Purchases $143,700 of equipment in May and
$48,300 in June (both purchases paid in cash)
Has an April 1 cash balance of $40,000
Slide 72
The Cash Budget
Schedule of Expected
Cash Collections.
Slide 73
The Cash Budget
Schedule of Expected
Cash Disbursements.
Direct Labor
Budget.
Manufacturing
Overhead Budget.
Selling and Administrative
Expense Budget.
Slide 74
The Cash Budget
Because Royal maintains
a cash balance of $30,000,
the company must borrow
$50,000 on its line-of-credit.
Slide 75
The Cash Budget
Because Royal maintains
a cash balance of $30,000,
the company must borrow
$50,000 on its line-of-credit.
Ending cash balance for April
is the beginning May balance.
Slide 76
The Cash Budget
Slide 77
Quick Check
What is the excess (deficiency) of cash
available over disbursements for June?
a. $ 85,000
b. $(10,000)
c. $ 75,000
d. $ 95,000
Slide 78
Quick Check
What is the excess (deficiency) of cash
available over disbursements for June?
a. $ 85,000
b. $(10,000)
c. $ 75,000
d. $ 95,000
Slide 79
The Cash Budget
$50,000 × 16% × 3/12 = $2,000
Borrowings on April 1 and
repayment on June 30.
Slide 80
End of Chapter
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