Profit Planning

UAA – ACCT 202 Principles of Managerial Accounting

Dr. Fred Barbee

PlanningPlanning

DecisionMaking

DecisionMaking

Organizing & DirectingOrganizing & Directing

ControllingControlling

EvaluatingEvaluating

The Work of Management

PlanningPlanning

DecisionMaking

DecisionMaking

Organizing & DirectingOrganizing & Directing

ControllingControlling

EvaluatingEvaluating

The Work of Management

Initiate LT & ST PlansInitiate LT & ST Plans

Implement Plans

Implement Plans

Measure Performanc

e

Measure Performanc

e

Evaluate Performanc

e

Evaluate Performanc

e

DecisionMaking

DecisionMaking

PlanningPlanning

DecisionMaking

DecisionMaking

Organizing & DirectingOrganizing & Directing

ControllingControlling

EvaluatingEvaluating

The Work of Management

Initiate LT & ST PlansInitiate LT & ST Plans

Implement Plans

Implement Plans

Measure Performanc

e

Measure Performanc

e

Evaluate Performanc

e

Evaluate Performanc

e

DecisionMaking

DecisionMaking

Planning

Planning -- involves developing

objectives and preparing various

budgets to achieve these objectives.

PlanningPlanning

DecisionMaking

DecisionMaking

Organizing & DirectingOrganizing & Directing

ControllingControlling

EvaluatingEvaluating

The Work of Management

Initiate LT & ST PlansInitiate LT & ST Plans

Implement Plans

Implement Plans

Measure Performanc

e

Measure Performanc

e

Evaluate Performanc

e

Evaluate Performanc

e

DecisionMaking

DecisionMaking

Control

Control involves the steps taken by management that attempt to ensure the objectives are attained.

DecisionMaking

DecisionMaking

Measure Performanc

e

Measure Performanc

e

Implement Plans

Implement Plans

Initiate LT & ST PlansInitiate LT & ST Plans

Evaluate Performanc

e

Evaluate Performanc

e

The Work of Management

Budgets

Initiate LT & ST PlansInitiate LT & ST Plans

Evaluate Performanc

e

Evaluate Performanc

e

DecisionMaking

DecisionMaking

PlanningPlanning

DecisionMaking

DecisionMaking

Evaluate Performanc

e

Evaluate Performanc

e

Measure Performanc

e

Measure Performanc

e

The Work of Management

Implement Plans

Implement Plans

Implement Plans

Implement Plans

“Through” the budget

Evaluate Performanc

e

Evaluate Performanc

e

DecisionMaking

DecisionMaking

PlanningPlanning

DecisionMaking

DecisionMaking

Evaluate Performanc

e

Evaluate Performanc

e

Measure Performanc

e

Measure Performanc

e

The Work of Management

Implement Plans

Implement Plans

Measure Performanc

e

Measure Performanc

e

“According” to the Budget

PlanningPlanning

DecisionMaking

DecisionMaking

Organizing & DirectingOrganizing & Directing

ControllingControlling

EvaluatingEvaluating

The Work of Management

Initiate LT & ST PlansInitiate LT & ST Plans

Implement Plans

Implement Plans

Measure Performanc

e

Measure Performanc

e

Evaluate Performanc

e

Evaluate Performanc

e

DecisionMaking

DecisionMaking

The Basic Framework of Budgeting

A Budget is . . .

• A quantitative expression of a plan of action.

• A detailed plan for acquiring and using financial and other resources over a specified time period (text).

NowNow

5 Years5 Years

1 Year1 Year

Short-Run Vs. Long-Run Budgets

Strategic Planning• Selecting overall objectives.• Choosing what markets to be in.• Selecting what products to produce.• Determining the price/quality mix.• Deciding which technologies to use.

Strategic Planning

Long-run Budgets (more than one year)Forecasts of large asset acquisitions.

Financing plans.Research and development plans.

Short-Run Vs. Long-Run Budgets

Strategic Planning

Long-run Budgets

Short-run Budgets (1 year or less)Quantities to produce.

Quantities to sell.Supplies acquisitions.

Short-Run Vs. Long-Run Budgets

Imposed

Participatory

Vs.

Budgets . . .

Imposed Budgets VersusParticipatory Budgets

Imposed Budgets

Participatory Budgets

Continuum

Participatory Budgets

Right to comment before implementation

Ultimate right to set budgets

Continuum

Imposed Budgets VersusParticipatory Budgets

Imposed Budgets

• In start-up organizations

• In extremely small businesses

• In times of economic crises

• When operating managers lack budgetary skills or perspective.

Best Time to Use . . .

• Requires less time.

• Utilize top management’s knowledge of overall resource availability.

• Increase probability that the firm’s strategic plans are incorporated.

Advantages . . .

Disadvantages . . .

• Reduce feeling of teamwork.

• Dissatisfaction and low morale.

• Limited acceptance of stated goals and objectives.

• May stifle initiative of lower level managers.

Imposed Budgets VersusParticipatory Budgets

Participatory Budgets

Best Time to Use . . .

• In well-established organizations.

• In extremely large businesses.

• In times of economic affluence.

• When operating managers have strong budgetary skills and perspectives.

Advantages . . .

• Obtain information from those persons most familiar with the needs and constraints of the organizational units.

• Leads to better morale and higher motivation.

Advantages . . .

• Integrates knowledge that is diffused among various levels of management.

• Provides a means to develop fiscal responsibility and budgetary skills of employees.

Advantages . . .

• Develop a high degree of acceptance of and commitment to organizational goals and objectives by operating management.

• Are generally more realistic.

Disadvantages . . .

• Require significantly more time.

• May motivate managers to introduce “slack” into the budget.

• May support “empire building” by subordinates.

Advantages of Budgeting

Advantages

Define goaland objectives

Uncover potentialbottlenecks

Coordinateactivities

Communicatingplans

Think about andplan for the future

Means of allocatingresources

The Master Budget

The Master Budget

Sales Budget

Production Budget

DL Budget

Cash Budget

Pro Forma Bal. Sht

EI Budget

DM Budget

Pro Forma Inc. Stmt

Overhead Budget

Sales Forecast

Capital Budget

Pro Forma SCF

S&A Exp Budget

The Master Budget

The Text Example Hampton Freeze

Tom Willis is the majority stockholder and chief executive officer of Hampton Freeze, Inc., a company he started in 2001. The company makes premium popsicles using only natural ingredients and featuring exotic flavors such as tangy tangerine and minty mango. The company’s business is highly seasonal, with most of the sales occurring in spring and summer.

In 2002, the company’s second year of operations, a major cash crunch in the first and second quarters almost forced the company into bankruptcy. In spite of this cash crunch, 2002 turned out to be overall a very successful year in terms of both cash flow and net income.

With the full backing of Tom Wills, Larry Giano set out to create a master budget for the company for the year 2003.

In his planning for the budgeting process, Larry drew up the following list of documents that would be a part of the master budget.

1

2

3 4 5

6 7

8

9 10

The Sales Budget

A budget showing the number of units, sales

price and total sales for each quarter (or

month).

Research into the history of cash collections at Hampton Freeze indicated that

– 70% of sales are collected in the quarter in which the sale is made and

– the remaining 30% are collected in the following quarter.

The Production Budget

A budget showing the number of units that

must be produced during each budget period to

meet sales needs and to provide for the desired

ending inventory.

Finished Units to be

Produced

Expected Sales in Units

Desired EI of

Finished Units

BI of Finished

Units= + -

• Hampton Freeze would like the ending inventory of finished goods to be equal to 20% of next quarter’s sales.

• The company has 2,000 units of beginning inventory.

1.Finished units to be produced

2.Equals expected sales in units

3.Plus Desired EI of finished units.

4.Less BI of finished units.

Desired Ending Inventory of

Finished Goods equals 20% of next

quarter’s sales.

Ending Inventory for one quarter equals Beginning Inventory for next

quarter.

Notice how inventories are accounted for on the spreadsheet.

The Direct Materials Purchases Budget

A budget showing the raw materials that must

be purchased to fulfill the production budget and to

provide for adequate inventories.

Required Purchases

of Raw Materials

Amount Required

for Productio

n

Desired EI of Raw

Materials

BI of Raw

Materials

= + -

• Hampton Freeze has established a policy of maintaining RM equal to 10% of the amount required for production in the subsequent quarter.

• In the first quarter the company plans on producing 14,000 units (from the production budget)

• Each unit requires parts costing $0.20.

• To prepare the Schedule of Expected Cash Disbursements for Materials, Hampton’s policy is to

– Pay for 50% of purchases in the quarter in which the purchase is made, and

– Pay the remaining 50% in the following quarter.

1.Required purchases of Direct

Materials

2.Equals amount

required for production.

3.Plus Desired EI of raw materials.

4.Less BI of raw materials.

The Direct Labor Budget

A budget showing the direct labor hours (and

total amount) needed to produce the number of

units specified in the production budget.

• Each case produced requires 0.4 direct labor hour.

• Each hour costs $15

The Direct Labor Budget

The MOH Budget

A budget showing all costs of production other than direct materials and

direct labor.

The MOH Budget

The Ending Finished Goods Inventory

Budget

A budget showing the carrying cost of the

unsold units remaining in inventory.

The Ending FG Inventory Budget

The Selling and Administrative

Expense Budget

A budget showing expenses for areas other

than manufacturing.

The S&A Expense Budget

The Cash Budget

The Budgeted (Pro-Forma) Income

Statement

The Budgeted Balance Sheet