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Chapter 20

Chapter 20. Budgeting. Financial and Managerial Accounting 8th Edition Warren Reeve Fess. Objectives. 1. Describe budgeting, its objectives, and its impact on human behavior.

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Chapter 20

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  1. Chapter 20 Budgeting Financial and Managerial Accounting 8th Edition Warren Reeve Fess

  2. Objectives 1.Describe budgeting, its objectives, and its impact on human behavior. 2. Describe the basic elements of the budget process, the two major types of budgeting, and the use of computers in budgeting. 3.Describe the master budget for a manufacturing business. 4.Prepare the basic income statement budgets for a manufacturing business. 5.Prepare balance sheet budgets for a manufacturing business.

  3. Feedback DIRECTING CONTROLLING Nature and Objectives of Budgeting Objectives of Budgeting • Establishing specific goals • Executing plans to achieve the goals • Periodically comparing actual results to the goals PLANNING

  4. Nature and Objectives of Budgeting Human Behavior and Budgeting Setting budget goals too tightly Setting budget goals too loosely Setting conflicting budget goals

  5. Nature and Objectives of Budgeting Goal conflict occurs when individual self-interest differs from business objectives. A student’s question, “Will this be on the test?” is evidence of goal conflict.

  6. Static Budgets Description:A budget that does not reflect potential changes in volume or activity level Strength:It is simple—all expenses are budgeted as fixed costs Weakness:It does not reflect changes in revenues and expenses that occur as volumes change Typical usage:Service organizations or administrative departments of retailers and manufacturers

  7. Static Budgets Colter Manufacturing Company Assembly Department Budget For the Month Ending July 31, 2006 Direct labor $40,000 Electric Power 5,000 Supervisor salaries 15,000 Total department costs $60,000

  8. Flexible Budgets Description:A budget that shows revenues and expenses for a variety of volumes or activity levels Strength:Provides information needed to analyze the impact of volume changes on actual operating results Weakness:Requires greater research into costs—must differentiate fixed and variable costs Typical usage: Operational departments of retailers and manufacturers whose costs change with sales and production

  9. Flexible Budgets Cost per unit is $5.50 at all levels of activity Colter Manufacturing Company Assembly Department Budget For the Month Ending July 31, 2006 Variable cost: Direct labor $40,000 $45,000 $50,000 Electric power 4,000 4,500 5,000 Total variable cost $44,000 $49,500 $55,000 Fixed cost: Electric power $ 1,000 $ 1,000 $ 1,000 Supervisor salaries 15,000 15,000 15,000 Total fixed cost $16,000 $16,000 $16,000 Total department costs $60,000 $65,500 $71,000 Units of production 8,000 9,000 10,000

  10. Over budget by $12,000 Actual Results Static Budget Static and Flexible Budgets Manufacturing Costs $60,000 $72,000 Based on 8,000 units Based on 10,000 units

  11. Over budget by only $1,000 Actual Results 10,000 units 8,000 units 9,000 units Static and Flexible Budgets Manufacturing Costs Flexible Budget 10,000 units $60,000 $65,500 $71,000 $72,000

  12. Master Budget Budgeted Income Statement requires Budgeted Balance Sheet requires • Sales budget • Cost of goods sold budget: • Production budget • Direct materials purchases budget • Direct labor cost budget • Selling and administrative expense budget • Cash budget • Capital expenditure budget

  13. Income Statement Budgets

  14. Data for Elite Accessories

  15. Production Budget Sales Budget Expected units of sales + Desired units in ending Finished goods inventory – Estimated units in beginning Finished goods inventory = Total units to be produced

  16. Production Budget Materials needed for production + Desired ending materials inventory – Est. beginning materials inventory = Direct materials to be purchased Sales Budget Direct Materials Purchases Budget

  17. Production Budget Cost of Goods Sold Budget Sales Budget Direct Materials Purchases Budget Direct Labor Cost Budget Selling & Administrative Expenses Budget Factory Overhead Cost Budget

  18. Elite Accessories Inc. Sales Budget For the Year Ending December 31, 2006 Unit Sales Unit Selling Total Product and Region Volume Price Sales Wallet: East……………….. 287,000 $12.00 $ 3,444,000 West………………. 241,000 12.00 2,892,000 Total……………. 528,000$ 6,336,000 Handbag: East……………….. 156,400 $25.00 $ 3,910,000 West………………. 123,600 25.00 3,090,000 Total……………. 280,000$ 7,000,000 Total revenue from Sales……………….. $13,336,000

  19. Elite Accessories Inc. Production Budget For the Year Ending December 31, 2006 From Sales Budget Units Wallet Handbag Expected units to be sold…………. 528,000 280,000 Plus desired ending inventory, December 31, 2006……………. 80,000 60,000 Total………………………………. 608,000 340,000 Less estimated beginning inventory, January 1, 2006…………………. 88,000 48,000 Total units to be produced………… 520,000 292,000

  20. Elite Accessories Inc. Direct Materials Purchases Budget For the Year Ending December 31, 2006 Direct Materials Leather Lining Total Square yards required for production: Wallet (Note A)………………….. 156,000 52,000 Note A: Leather: 520,000 units x 0.30 sq. yd. per unit = 156,000 sq. yds. Lining: 520,000 units x 0.10 sq. yd. Per unit = 52,000 sq. yds.

  21. Elite Accessories Inc. Direct Materials Purchases Budget For the Year Ending December 31, 2006 Direct Materials Leather Lining Total Square yards required for production: Wallet(Note A)……..……..…….. 156,000 52,000 Handbag (Note B)……………….. 365,000 146,000 Note B: Leather: 292,000 units x 1.25 sq. yd. per unit = 365,000 sq. yds. Lining: 292,000 units x 0.50 sq. yd. Per unit = 146,000 sq. yds.

  22. Elite Accessories Inc. Direct Materials Purchases Budget For the Year Ending December 31, 2006 Direct Materials Leather Lining Total Square yards required for production: Wallet(Note A)……....………….. 156,000 52,000 Handbag (Note B).………………. 365,000 146,000 Plus desired inventory, Dec. 31, 2006 20,000 12,000 Total……………………………… 541,000 210,000

  23. Elite Accessories Inc. Direct Materials Purchases Budget For the Year Ending December 31, 2006 Direct Materials Leather Lining Total Square yards required for production: Wallet (Note A) …………………. 156,000 52,000 Handbag (Note B) ………………. 365,000 146,000 Plus desired inventory, Dec. 31, 2006 20,000 12,000 Total……………………………… 541,000 210,000 Less estimated inventory, Jan. 1, 2006 18,000 15,000 Total square yards to be purchased.. 523,000 195,000

  24. Elite Accessories Inc. Direct Materials Purchases Budget For the Year Ending December 31, 2006 Direct Materials Leather Lining Total Square yards required for production: Wallet (Note A)………………….. 156,000 52,000 Handbag (Note B).………………. 365,000 146,000 Plus desired inventory, Dec. 31, 2006 20,000 12,000 Total……………………………… 541,000 210,000 Less estimated inventory, Jan. 1, 2006 18,000 15,000 Total square yards to be purchased 523,000 195,000 Unit price (per square yard)…………. x $4.50x $1.20 Total value of materials to be purchased. $2,353,500 $234,000 $2,587,500

  25. Elite Accessories Inc. Direct Labor Cost Budget For the Year Ending December 31, 2006 Cutting Sewing Total Hours required for production: Wallet (Note A)………….52,000 130,000 Note A: Cutting Department: 520,000 units x 0.10 hr. per unit = 52,000 hrs. Sewing Department: 520,000 units x 0.25 hr. per unit = 130,000 hrs.

  26. Elite Accessories Inc. Direct Labor Cost Budget For the Year Ending December 31, 2006 Cutting Sewing Total Hours required for production: Wallet (Note A)………….52,000 130,000 Handbag (Note B)……….. 43,800 116,800 Note A: Cutting Department: 520,000 units x 0.10 hr. per unit = 52,000 hrs. Sewing Department: 520,000 units x 0.25 hr. per unit = 130,000 hrs. . Note B: Cutting Department: 292,000 units x 0.15 hr. per unit = 43,800 hrs. Sewing Department: 292,000 units x 0.40 hr. per unit = 116,800 hrs

  27. Note A: Cutting Department: 520,000 units x 0.10 hr. per unit = 52,000 hrs. Sewing Department: 520,000 units x 0.25 hr. per unit = 130,000 hrs. . Note B: Cutting Department: 520,000 units x 0.15 hr. per unit = 43,800 hrs. Sewing Department: 520,000 units x 0.40 hr. per unit = 116,800 hrs Elite Accessories Inc. Direct Labor Cost Budget For the Year Ending December 31, 2006 Cutting Sewing Total Hours required for production: Wallet (Note A)………….52,000 130,000 Handbag (Note B)……….. 43,800 116,800 Total……………………... 95,800 246,800

  28. Elite Accessories Inc. Direct Labor Cost Budget For the Year Ending December 31, 2006 Cutting Sewing Total Hours required for production: Wallet (Note A)………….52,000 130,000 Handbag (Note B)……….. 43,800 116,800 Total……………………... 95,800 246,800 Hourly rate…………………… x $12.00x $15.00 Total direct labor cost………… $1,149,600 $3,702,000 $4,851,600 Note A: Cutting Department: 520,000 units x 0.10 hr. per unit = 52,000 hrs. Sewing Department: 520,000 units x 0.25 hr. per unit = 130,000 hrs. Note B: Cutting Department: 520,000 units x 0.15 hr. per unit = 43,800 hrs. Sewing Department: 520,000 units x 0.40 hr. per unit = 116,800 hrs

  29. Elite Accessories Inc. Factory Overhead Cost Budget For the Year Ending December 31, 2006 Indirect factory wages……………………... $ 732,800 Supervisory salaries………………………... 360,000 Power and light…………………………….. 306,000 Depreciation of plant and equipment……… 288,000 Indirect materials…………………………… 182,800 Maintenance………………………………. 140,280 Insurance and property taxes………………. 79,200 Total factory overhead cost……………… .. $2,089,080

  30. Data for Elite Accessories – cont’d

  31. Elite Accessories Inc. Cost of Goods Sold Budget For the Year Ending December 31, 2006 Finished goods inventory, January 1 ,2006….. $ 1,095,600 Work in process inventory, January 1, 2006… $ 214,400 Direct materials: Direct materials inventory, January 1, 2006 (Note A)…………………………………. $ 99,000 Note A: Leather: 18,000 sq. yds. x $4.50 per sq. yd $81,000 Lining: 15,000 sq. yds. x $1.20 per sq. yd 18,000 Direct materials inventory, January 1, 2006 $99,000

  32. Elite Accessories Inc. Cost of Goods Sold Budget For the Year Ending December 31, 2006 Finished goods inventory, January 1 ,2006….. $ 1,095,600 Work in process inventory, January 1, 2006… $ 214,400 Direct materials: Direct materials inventory, January 1, 2006 (Note A)…………………………………. $ 99,000 Note B: Leather: 20,000 sq. yds. x $4.50 per sq. yd $ 90,000 Lining: 12,000 sq. yds. x $1.20 per sq. yd 14,400 Direct materials inventory, December 31, 2006 $104,400

  33. Elite Accessories Inc. Cost of Goods Sold Budget Finished goods inventory, January 1 ,2006…. $ 1,095,600 Work in process inventory, January 1, 2006... $ 214,400 Direct materials: Direct materials inventory, January 1, 2006 (Note A)…………………………………. $ 99,000 Direct materials purchases (Slide 24)……..2,587,500 Cost of direct materials available for use…. $2,686,500 Less direct materials inventory, December 31, 2006 (Note B)……………. 104,400 Cost of direct materials placed in production $2,582,100 Direct labor (Slide 28)……………………….4,851,600 Factory overhead (Slide 29)………………….. 2,089,080 Total manufacturing costs……………………. 9,522,780 Total work in process during period…………. $9,737,180 Less work in process inventory, December 31, 2006 220,000 Cost of goods manufactured………………………... 9,517,180 Cost of finished goods available for sale…………... $10,612,780 Less finished goods inventory, December 31, 2006.. 1,565,000 Cost of goods sold………………………………….. $ 9,047,780

  34. Elite Accessories Inc. Selling and Administrative Expenses Budget For the Year Ending December 31, 2006 Selling expenses: Sales salaries expense…………………………. $715,000 Advertising expense…………………………... 360,000 Travel expense…………………………………. 115,000 Total selling expenses………………………... $1,190,000 Administrative expenses: Officers’ salaries expense………………………. $360,000 Office salaries expense…………………………. 258,000 Office rent expense……………………………... 34,500 Office supplies expense…………………………. 17,500 Miscellaneous administrative expense………….. 25,000 Total administrative expenses………………… 695,000 Total selling and administrative expenses………… $1,885,000

  35. Elite Accessories Inc. Budgeted Income Statement For the Year Ending December 31, 2006 Revenue from sales (slide 18) $13,336,000 Cost of goods sold (slide 33) 9,047,780 Gross profit $ 4,288,220 Selling & administrative expenses: Selling expenses (slide 34) $1,190,000 Administrative expenses (slide 34) 695,000 Total sell. & Admin. Expenses 1,885,000 Income from operations $ 2,403,220 Other income: Interest revenue $ 98,000 Other expense: Interest expense 90,000 8,000 Income before income tax $ 2,411,220 Income tax 600,000 Net income $ 1,811,220

  36. Budgeted Balance Sheet The cash budget is one of the most important elements of the budgeted balance sheet. We’ll begin with a schedule of collection from sales.

  37. Data for Elite Accessories – cont’d

  38. Data for Elite Accessories – cont’d

  39. Elite Accessories Inc. Schedule of Collections from Sales For the Three Months Ending March 31, 2006 January February March Receipts from cash sales: Cash sales (10%)(see Note A)……………………... $108,000 $ 124,000 $ 97,000 Note A: $108,000 = $1,080,000 x 10% $124,000 = $1,240,000 x 10% $ 97,000 = $ 970,000 x 10%

  40. Elite Accessories Inc. Schedule of Collections from Sales For the Three Months Ending March 31, 2006 January February March Receipts from cash sales: Cash sales (10%)(see Note A)……………………... $108,000 $ 124,000 $ 97,000 Receipts from sales on account: Collections from prior month’s sales (40%)(see Note B)……. $370,000 $ 388,800 $446,400 Note B: $370,000, given as January 1, 2006 Accounts Receivable balance $388,800 = $1,080,000 x 90% x 40% $446,400 = $1,240,000 x 90% x 40%

  41. Elite Accessories Inc. Schedule of Collections from Sales For the Three Months Ending March 31, 2006 January February March Receipts from cash sales: Cash sales (10%)(see Note A)……………………... $108,000 $ 124,000 $ 97,000 Receipts from sales on account: Collections from prior month’s sales (40%)(see Note B)……. $370,000 $ 388,800 $446,400 Collections from current month’s sales (60%)(see Note C)…………………………… 583,200 669,600 523,800 Note C: $583,200 = $1,080,000 x 90% x 60% $669,600 = $1,240,000 x 90% x 60% $523,800 = $ 970,000 x 90% x 60%

  42. Elite Accessories Inc. Schedule of Collections from Sales For the Three Months Ending March 31, 2006 January February March Receipts from cash sales: Cash sales (10%)(see Note A)……………………... $108,000 $ 124,000 $ 97,000 Receipts from sales on account: Collections from prior month’s sales (40%)(see Note B)……. $370,000 $ 388,800 $446,400 Collections from current month’s sales (60%)(see Note C)…………………………… 583,200 669,600 523,800 Total receipts from sales on account……………………... $953,200 $1,058,400 $970,200

  43. Elite Accessories Inc. Schedule of Payments for Manufacturing Costs For the Three Months Ending March 31, 2006 January February March Payment of prior month’s manufacturing costs (25%) (see Note A)………………… $190,000 $204,000 $189,000 Note A: $190,000, given as January 1, 2006 Accounts Payable balance $204,000 = ($840,000 –$24,000) x 25% $189,000 = ($780,000 – $24,000) x 25%

  44. Elite Accessories Inc. Schedule of Payments for Manufacturing Costs For the Three Months Ending March 31, 2006 January February March Payment of prior month’s manufacturing costs (25%) (see Note A)………………… $190,000 $204,000 $189,000 Payment of current month’s manufacturing costs (75%) (see Note B)…………………. 612,000 567,000 591,000 Note B: $612,000 = ($840,000 – $24,000) x 75% $567,000 = ($780,000 – $24,000) x 75% $591,000 = ($812,000 – $24,000) x 75%

  45. Elite Accessories Inc. Schedule of Payments for Manufacturing Costs For the Three Months Ending March 31, 2006 January February March Payment of prior month’s manufacturing costs (25%) (see Note A)………………… $190,000 $204,000 $189,000 Payment of current month’s manufacturing costs (75%) (see Note B)…………………. 612,000 567,000 591,000 Total payments………………. $802,000 $771,000 $780,000

  46. Elite Accessories Inc. Cash Budget For the Three Months Ending March 31, 2006 January February March Estimated cash receipts: Cash sales (Slide 42)………….. $ 108,000 $ 124,000 $ 97,000 Collections of accounts receivable (Slide 42)………... 953,200 1,058,400 970,200 Interest revenue………………... —— 24,500 Total cash receipts……………. $1,061,200$1,182,400$1,091,700 Estimated cash payments for: Manufacturing costs (Slide 45).. $ 802,000 $ 771,000 $ 780,000 Selling and administrative expenses……………………… 160,000 165,000 145,000 Capital additions 274,000 Interest expense 22,500 Income taxes 150,000 Total cash payments…………. $ 984,500$1,210,000$1,075,000

  47. Elite Accessories Inc. Cash Budget For the Three Months Ending March 31, 2006 January February March Total cash receipts……………. $1,061,200$1,182,400$1,091,700 Estimated cash payments for: Manufacturing costs (Slide 45).. $ 802,000 $ 771,000 $ 780,000 Selling and administrative expenses……………………… 160,000 165,000 145,000 Capital additions 274,000 Interest expense 22,500 Income taxes 150,000 Total cash payments…………. $ 984,500$1,210,000$1,075,000 Cash increase (decrease)…………. $ 76,700 $ (27,600) $ 16,700 Cash balance at beginning of month 280,000 356,700 329,100 Cash balance at end of month……. $ 356,700 $ 329,100 $ 345,800 Minimum cash balance…………… 340,000 340,000 340,000 Excess (deficiency)………………. $ 16,700 $ (10,900) $ 5,800

  48. Software Spreadsheet software for personal computers is a powerful and flexible tool for budgeting. Sensitivity analysis is the systematic varying of budget data input to determine the effects of each change on the budget. Class Example

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