ACT220 - CHAPTER 8 (Budgets)

Companies that neglect the budgeting process run the risk of

- facing labor shortages or having to hire and lay off workers at awkward times. - Erratic labor policies lead to insecurity, low morale, and inefficiency.

Direct materials budget includes three different units of measure:

1) It begins by defining the number of units of finished goods that need to be produced each period. 2) It then defines the quantity of raw material inputs (measured in terms such as pounds or ounces) that need to be purchased to support production. 3) It concludes by translating the quantity of raw materials to be purchased into the cost of raw materials to be purchased.

Many companies choose to involve lower-level managers in the budgeting process because:

1) It shows respect for their opinions. 2) It leverages their knowledge to provide more accurate estimates than those imposed by top-level managers who have less intimate knowledge of day-to-day operations. 3) It increases their motivation to achieve their own self-imposed goals. 4) It empowers them to take ownership of the budget and to be accountable for deviations from it.

budgeting process

1) Prepare a Sales budget: a detailed schedule showing the expected sales for the budget period. - If the sales budget is inaccurate, the rest of the budget will be inaccurate. 2) Production budget: in turn is used to determine the direct materials, direct labor, and manufacturing overhead budgets. 3) Direct Materials, Direct Labor, and Manufacturing Overhead Budgets.

Cash Budget (Periods)

1) cash budget should be broken down into time periods that are short enough to capture major fluctuations in cash balances 2) While a monthly cash budget is most common, some organizations budget cash on a weekly or even daily basis.

Cash budget is composed of four main sections:

1) cash receipts section. 2) cash disbursements section. 3) cash excess or deficiency section. 4) financing section. - receipts section lists all of the cash inflows, except from financing, expected during the budget period. (major source of receipts is from sales) - disbursements section summarizes all cash payments that are planned for the budget period. (include raw materials purchases, direct labor payments, manufacturing overhead costs) - If a cash deficiency exists during any budget period or if there is a cash excess during any budget period that is less than the minimum required cash balance, the company will need to borrow money. Conversely, if there is a cash excess during any budget period that is greater than the minimum required cash balance, the company can invest the excess funds or repay principal and interest to lenders.

budget

A budget is a detailed plan for the future that is usually expressed in formal quantitative terms. - ordinarily covers a one-year period corresponding to its fiscal year - often broken down into quarterly and monthly budgets. Two distinct purposes: (good system accounts for both) 1) Planning 2) Control - Planning involves developing goals and preparing various budgets to achieve those goals. - Control involves gathering feedback to ensure that the plan is being properly executed or modified as circumstances change

cash budget

A cash budget is a detailed plan showing how cash resources will be acquired and used.

Manufacturing overhead budget

A detailed plan showing the production costs, other than direct materials and direct labor, that will be incurred over a specified time period.

Selling and Administrative Expense Budget

A detailed schedule of planned expenses that will be incurred in areas other than manufacturing during a budget period.

Self-imposed budget (participative budget)

A self-imposed budget or participative budget is a budget that is prepared with the full cooperation and participation of managers at all levels. -With a top-down approach, top-level managers initiate the budgeting process by issuing profit targets. Lower-level managers are directed to prepare budgets that meet those targets. Two important limitations: 1)Lower-level managers may make suboptimal budgeting estimates if they lack the broad strategic perspective possessed by top managers. 2) If the budget is used to reward employees, then lower-level managers may create too much budgetary slack in an effort to ensure that their actual results exceed the plan.

If a company has a beginning merchandise inventory of $50,000, a desired ending merchandise inventory of $30,000, and a budgeted cost of goods sold of $300,000, what is the amount of required inventory purchases? a) $320,000 b) $280,000 c) $380,000 d) $300,000 Budgeted unit sales for March, April, and May are 75,000, 80,000, and 90,000 units. Management desires to maintain an ending inventory equal to 30 percent of the next month's unit sales. How many units should be produced in April? a) 80,000 units b) 83,000 units c) 77,000 units d) 85,000 units

B - Required inventory purchases are calculated as follows: Cost of goods sold of $300,000 + Ending inventory of $30,000 - Beginning inventory of $50,000 = $280,000. B - 80,000 units sold in April + 27,000 units of desired ending inventory - 24,000 units of beginning inventory = 83,000 units.

The final schedule of the master budget is the ______.

Balance Sheet

Cash Budget Formula

Beginning cash balance + Cash collections = Cash available - Cash payments = Excess/Deficiency + Borrowings - Repayments = Ending cash balance

March, April, and May sales are $100,000, $120,000, and $125,000, respectively. A total of 80 percent of all sales are credit sales and 20 percent are cash sales. A total of 60 percent of credit sales are collected in the month of the sale and 40 percent are collected in the next month. There are no bad debt expenses. What is the amount of cash collections for April? a) $89,600 b) $111,600 c) $113,600 d) $132,600 Referring to the facts above, what is the accounts receivable balance at the end of May? a) $40,000 b) $50,000 c) $72,000 d) $80,000

C - Cash collections for April are calculated as follows: ($100,000 × 80% × 40%) + ($120,000 × 20%) + ($120,000 × 80% × 60%) = $113,600. A - The May 31 accounts receivable balance is $125,000 × 80% × 40% = $40,000.

Which of the following statements is false? (You may select more than one answer.) a. Control involves gathering feedback to ensure that the plan is being properly executed or modified as circumstances change. b. Planning involves developing goals and preparing various budgets to achieve those goals. c. A self-imposed budget is prepared with the full cooperation and participation of managers at all levels of the organization. d. One strength of self-imposed budgets is that they eliminate the risk that lower-level managers may allow too much budgetary slack.

D One limitation of self-imposed budgets is that lower-level managers may allow too much budgetary slack.

The financing section of the cash budget details the borrowings and principal and interest repayments projected to take place during the budget period.

To calculate borrowings and interest payments, you'll need to pay attention to the company's desired minimum cash balance and to the terms of the company's loan agreement with the bank.

Which of the following statements is true? (You may select more than one answer.) a) The manufacturing overhead budget includes depreciation related to assets that support a company's selling and administrative functions. b) The cash disbursements for selling and administrative expenses are reported in the budgeted income statement. c) The selling and administrative expense budget includes depreciation related to manufacturing assets. d) The total variable and fixed selling and administrative expenses incurred during a period are reported in the budgeted income statement.

D - The manufacturing overhead budget includes depreciation on manufacturing assets. Cash disbursements for selling and administrative expenses are reported in the cash budget. The selling and administrative expense budget included depreciation related to assets that support a company's selling and administrative functions.

Why Do Organizations Create Budgets?

From a planning standpoint, organizations use budgets to: 1) Encourage managers to think about and plan for the future. 2) Communicate financial goals throughout the organization. 3) Allocate resources within the organization where they can be used most effectively. 4) Coordinate the plans and activities of departmental managers. 5) Uncover potential bottlenecks before they occur. From a control standpoint, organizations compare their budgets to actual results to: 1) Improve the efficiency and effectiveness of operations. 2) Evaluate and reward employees.

Creating a budget is an important part of which phase of the planning and control process?

Planning Creating a Budget is an important part of the planning phase of the planning and controlling process. Budget is a process of creating a plan to spend your money. Creating this spending plan allows you to determine in advance whether you will have enough money to do the things you need to do or you would like to do. If you don't have enough money for everything you would like to do, then you can use the planning process to prioritize your spending and focus your money on the things that are important to you.

Required Borrowings

Required Borrowings at the Beginning of the First Quarter: Desired ending cash balance $ 30,000 Plus deficiency of cash available over disbursements $94,000 Minimum required borrowings $124,000 Required Borrowings at the Beginning of the Second Quarter: Desired ending cash balance $ 30,000 Plus deficiency of cash available over disbursements $ 36,100 Minimum required borrowings $ 66,100 ** the beginning cash balance for the year is the same as the beginning cash balance for the first quarter and the ending cash balance for the year is the same as the ending cash balance for the fourth quarter.

IMPORTANT Equation (BB in RE + NI - DIV = EB in RE)

The beginning balance in Retained Earnings plus net income minus dividends equals the ending balance in Retained Earnings. - This equation highlights how the income statement and the balance sheet connect to one another. The net income from the income statement plugs into Retained Earnings on the balance sheet. This concept, which is formally referred to as articulated financial statements, is something that all business students must understand.

Budgeted Balance Sheet

The budgeted balance sheet is developed using data from the balance sheet from the beginning of the budget period and data contained in the various schedules. (projection of financial position)

Beginning balance sheet

The first balance sheet a business prepares before it opens its doors to customers.

Master Budget

The master budget consists of a number of separate but interdependent budgets that formally lay out the company's sales, production, and financial goals. The master budget culminates in a cash budget, a budgeted income statement, and a budgeted balance sheet.

Preparing a Budget

Top-level managers should not pressure lower-level managers to take extreme measures to "meet the budget." Creating this type of budgeting environment breeds hostility, tension, and mistrust rather than a cooperative pursuit of continuous process improvement.

perpetual budget

a 12-month budget that rolls forward one month as the current month is completed -This approach keeps managers continually focused one year ahead

Ending Finished Goods Inventory Budget

a budget showing the dollar amount of unsold finished goods inventory that will appear on the ending balance sheet

Ending finished goods inventory budget

a budget showing the dollar amount of unsold finished goods inventory that will appear on the ending balance sheet

Direct Materials Budget

a detailed plan showing the amount of raw materials that must be purchased to fulfill the production budget and to provide for adequate inventories

Production Budget (2)

a detailed plan showing the number of units that must be produced during a period in order to satisfy both sales and inventory needs. Prepared after the sales budget. - the production budget lists the number of units that must be produced to satisfy sales needs and to provide for the desired ending finished goods inventory. Inventories: 1)Excessive inventories tie up funds and create storage problems. 2)Insufficient inventories can lead to lost sales or last-minute, high-cost production efforts.

Direct Labor Budget

a detailed plan that shows the direct labor-hours required to fulfill the production budget

Sales Budget (2)

a detailed schedule showing expected sales expressed in both dollars and units for the budgeted period

Budgeted Income Statement

budgeted income statement is one of the key schedules in the budget process. -It shows the company's planned profit and serves as a benchmark against which subsequent company performance can be measured.

Budgeted income statement

budgeted income statement provides an estimate of net income for the budget period and it relies on information from the sales budget, ending finished goods inventory budget, selling and administrative expense budget, and the cash budget.

Production Budget Formula

budgeted sales in units + desired ending inventory in units = total units needed - beginning inventory in units = units to be produced

Final Schedule

final schedule of the master budget is the balance sheet, which estimates a company's assets, liabilities, and stockholders' equity at the end of a budget period.

Sales Budget Formula

number of unit sales x sales price per unit

Production Budget

production budget in turn is used to determine the direct materials, direct labor, and manufacturing overhead budgets.

How can you predict a cash shortfall?

put together a cash budget and a master budget

Sales Budget

sales budget influences the variable portion of the selling and administrative expense budget and it feeds into the production budget, which defines how many units need to be produced during the budget period.

Direct Labor Budget (2)

shows the direct labor-hours required to satisfy the production budget. By knowing in advance how much labor time will be needed throughout the budget year, the company can develop plans to adjust the labor force as the situation requires.