6 - 1 ©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster Chapter...

6 - 1©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Chapter 6

Master Budget andResponsibility

Accounting

Master Budget andResponsibility

Accounting

Mar 7, 2005


BudgetingBudgeting

A tool companies use for planning and controlling what they must do to succeed in the marketplace

Show financial results expected from planned activities

Anticipate potential problems and how to avoid them, i.e., running out of cash

Focus energy on exploiting opportunities “Failing to plan is a plan to fail’


Understand what a master budgetis and explain its benefits.

Learning Objective 1Learning Objective 1


Budgeting CycleBudgeting Cycle

Performance planning

Providing a frame of reference

Investigating variations from plan

Taking corrective action

Planning again based on feedback


The Master BudgetThe Master Budget

Master BudgetMaster Budget

Operating Decisions

(Focus on use ofscare resources)

Operating Decisions

(Focus on use ofscare resources)

Financial Decisions

(How to obtain funding to acquire resources)

Financial Decisions

(How to obtain funding to acquire resources)


Describe the advantagesof budgets.



What are the Advantagesof Budgets?


Compels strategic planning(Identify objectives, markets, formof organization, financial structure,alternative and contingency plans)

Provides a frameworkfor judging performance

(so you don’t repeat past mistakes, and plan for changing conditions)

#1

#2




Motivates employeesand managers

(Never used as a “club”, set challenging but achievable goals)

Promotes coordinationand communication

(Coordinating all facets of the firm,Communicating goals, gaining

acceptance

#3

#4


Time Coverage of BudgetsTime Coverage of Budgets

Budgets typically have a set timeperiod (month, quarter, year).

This time period can itself be brokeninto subperiods.

The most frequently used budgetperiod is one year.

Businesses are increasingly usingrolling budgets, i.e. next four quarters



Prepare the operating budgetand its supporting schedules.


Overview of Master BudgetOverview of Master Budget

See Exhibit 6-2, page 181 Operating budget – income statement items Financial Budget – includes capital budget,

cash budget, balance sheet and statement of cash flow

Key to process is the revenue budget

What are sources of information?


Revenue BudgetRevenue Budget

Marketing department Sales force Customers New products Competitors State of economy Suppliers (availability of resources)


Operating Budget ExampleOperating Budget Example

Hawaii Diving expects 1,100 units to be soldduring the month of August 2004.

Selling price is expected to be $240 per unit.

How much are budgeted revenues for the month?

1,100 × $240 = $264,000



Two pounds of direct materials are budgeted perunit at a cost of $2.00 per pound, $4.00 per unit.

Three direct labor-hours are budgeted per unitat $7.00 per hour, $21.00 per unit.

Variable overhead is budgeted at $8.00per direct labor-hour, $24.00 per unit.

Fixed overhead is budgeted at $5,400 per month.



Variable nonmanufacturing costs areexpected to be $0.14 per revenue dollar.

Fixed nonmanufacturing costs are$7,800 per month.


Production Budget ExampleProduction Budget Example

Budgeted sales (units)

Target ending finished goods inventory (units)

Beginning finished goods inventory (units)

Budgeted production (units)

+–=



Assume that target ending finished goodsinventory is 80 units.

Beginning finished goods inventory is 100 units.

How many units need to be produced?



Hawaii Diving Production Budgetfor the Month of August 2004

Units required for sales 1,100Add ending inv. of finished units 80Total finished units required1,180Less beg. inv. of finished units 100Units to be produced 1,080


Direct Materials Usage BudgetDirect Materials Usage Budget

Each finished unit requires 2 pounds of directmaterials at a cost of $2.00 per pound.

Desired ending inventory equals 15% of thematerials required to produce next month’s sales.

September sales are forecasted to be 1,600 units.

What is the ending inventory in August?

480 pounds



September sales: 1,600 × 2 pounds per unit= 3,200 pounds

3,200 × 15% = 480 pounds(the desired ending inventory)

What is the beginning inventory in August?

1,100 units × 2 × 15% = 330 units



How many pounds are needed to produce1,080 units in August?

1,080 × 2 = 2,160 pounds


Material Purchases BudgetMaterial Purchases Budget

Hawaii Diving Direct Material Purchases Budget for the Month of August 2004

Units needed for production 2,160Target ending inventory 480

Total material to provide for 2,640

Less beginning inventory 330Units to be purchased 2,310Unit purchase price $ 2.00Total purchase cost $4,620


Direct ManufacturingLabor Budget

Direct ManufacturingLabor Budget

Hawaii Diving Direct Labor Budgetfor the Month of August 2004

Units produced: 1,080Direct labor-hours/unit 3Total direct labor-hours: 3,240Total budget @ $7.00/hour: $22,680

Each unit requires 3 direct labor-hoursat $7.00 per hour.


Manufacturing Overhead BudgetManufacturing Overhead Budget

Variable overhead is budgeted at $8.00per direct labor-hour.

Fixed overhead is budgeted at $5,400 per month.


Manufacturing Overhead BudgetManufacturing Overhead Budget

Hawaii Diving Manufacturing OverheadBudget for the Month of August 2004

Variable Overhead:(3,240 × $8.00) $25,920Fixed Overhead 5,400Total $31,320


Ending Inventory BudgetEnding Inventory Budget

Cost per finished unit:Materials $ 4Labor 21Variable manufacturing overhead 24

Fixed manufacturing overhead 5*Total $54

*$5,400 ÷ 1,080 = $5


Ending Inventory BudgetEnding Inventory Budget

What is the cost of the targetending inventory for materials?

480 × $2 = $960

What is the cost of the targetfinished goods inventory?

80 × $54 = $4,320


Cost of Goods Sold BudgetCost of Goods Sold Budget

Direct materials used:2,160 × $2.00 $ 4,320Direct labor 22,680Total overhead 31,320Cost of goods manufactured $58,320



Ending finished goods inventory is $4,320.

What is the cost of goods sold?

Assume that the beginning finishedgoods inventory is $5,400.



Beginning finished goods inventory $ 5,400+ Cost of goods manufactured $58,320= Goods available for sale $63,720– Ending finished goods inventory $ 4,320= Cost of goods sold $59,400


Nonmanufacturing Costs BudgetNonmanufacturing Costs Budget

Hawaii Diving Other Expenses Budgetfor the Month of August 2004

Variable Expenses:($0.14 × $264,000) $36,960Fixed expenses 7,800Total $44,760



Cost of goods sold are budgeted at $59,400.

What is the budgeted gross margin?

Hawaii Diving has budgeted sales of$264,000 for the month of August.


Budgeted Statement of IncomeBudgeted Statement of Income

Hawaii Diving Budgeted Income Statement

for the Month ending August 31, 2004Sales $264,000 100%Less cost of sales 59,400 22%Gross margin $204,600 78%Other expenses 44,760 17%Operating income $159,840 61%



Use computer-based financialplanning models insensitivity analysis.


Financial Planning ModelsFinancial Planning Models

Financial planning models are mathematical representations of the interrelationships among operating

activities, financial activities, and other factors that affect the master budget.


SoftwareSoftware

Software packages are now readily available to reduce the computational burden and time required to prepare

budgets.(www.excelco.com)

These packages assist managersto do sensitivity analysis.


Sensitivity AnalysisSensitivity Analysis

Consider Hawaii Diving.

What if some parameters in the budget modelwere to change?

For example, what if the selling price isexpected to be $230 instead of $240?

What are expected revenues?

1,100 × $230 = $253,000 instead of $264,000


Sensitivity AnalysisSensitivity Analysis

What if the materials cost is expected to increase to $2.50 per pound instead of $2.00.

What is the cost of goods sold?

1,100 × $55 = $60,500 instead of $59,400

Why the increase?

Because materials cost per unit become$5.00 instead of $4.00.


Cash BudgetCash Budget

Hawaii Diving has the followingcollection pattern:

In the month of sale: 50%

In the month following sale: 27%

In the second month following sale: 20%

Uncollectible: 3%



Budgeted charge sales are as follows:

June $200,000July $250,000August $264,000September $260,000

What are the expected cash collections in August?



Budgeted Cash Receiptsfor the Month Ending August 31, 2004

August sales: $264,000 × 50% $132,000July sales: $250,000 × 27% 67,500June sales: $200,000 × 20% 40,000Total $239,500



Budgeted Cash Disbursementsfor the Month Ending August 31, 2004

August purchases $ 4,620Direct labor 22,680Total overhead 31,320

Other expenses 9,760*Total $68,380

*Other expenses exclude depreciation



Cash Budgetfor the Month Ending August 31, 2004

Budgeted receipts $239,500Budgeted disbursements 68,380Net increase in cash $171,120



Explain kaizen budgetingand how it is used for

cost management.


What is Kaizen?What is Kaizen?

The Japanese use the term “kaizen”for continuous improvement.

Kaizen budgeting is an approach thatexplicitly incorporates continuousimprovement during the budgetperiod into the budget numbers.


Kaizen BudgetingKaizen Budgeting

It was previously estimated that it should take 3 labor-hours for Hawaii Diving to

manufacture its product.

A kaizen budgeting approach wouldincorporate future improvements.


Kaizen BudgetingKaizen Budgeting

Budgeted Hours/ItemJanuary – March 2004 3.00April – June 2004 2.95July – September 2004 2.90October – December 2004 2.85



Prepare an activity-basedbudget.

SKIP



Describe responsibility accounting.

Managers should only be responsible for costs they can control or influence


What is Controllability?What is Controllability?

It is the degree of influence that a specificmanager has over costs, revenues,

or other items in question.

A controllable cost is any cost that isprimarily subject to the influence of agiven responsibility center manager

for a given time period.


ControllabilityControllability

Responsibility accounting focuses oninformation and knowledge, not control.

A responsibility accounting system couldexclude all uncontrollable costs from

a manager’s performance report.

In practice, controllability is difficult to pinpoint.


Appendix, p.195 - 199Appendix, p.195 - 199

The Cash Budget Preparation of budgets

the cash budget

the income statement

the balance sheet


End of Chapter 6End of Chapter 6

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