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COST MANAGEMENT
Guan Hansen Mowen
COPYRIGHT 2009 South-Western Publishing, a division of Cengage Learning.Cengage Learning and South-Western are trademarks used herein under license. 1
Chapter 8
Budgeting for Planning andControl
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1. Define budgeting, and discuss its role in planning, controlling, anddecision making.
2. Prepare the operating budget, identify its major components, andexplain the interrelationships of the various components.
3. Identify the components of the financial budget, and prepare a cashbudget.
4. Define flexible budgeting, and discuss its role in planning, control,and decision making.
5. Define activity-based budgeting, and discuss its role in planning,
control, and decision making.6. Identify and discuss the key features that a budgetary system
should have to encourage managers to engage in goal-congruentbehavior.
Study Objectives
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The Role of Budgetingin Planning and Control
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The Role of Budgetingin Planning and Control
Types of budgets
Master budget
Operating budgets
Financial budgets
Time frame
Annual period
Multi-year rolling budget
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The Role of Budgetingin Planning and Control
Gathering information
Forecasting sales
Forecasting other variables
The master budget starts with the salesforecast, which is basis for the sales
budget.All other operating and most financialbudgets are generated from the sales
budget.
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The Role of Budgetingin Planning and Control
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The first budget is the sales budget which is based on thesales forecast.
Starting point for Production Budget
Starting point for Marketing Expense Budget
Schedule 1 (in thousands)
Goes to Budgeted Income Statement
Preparing the Operating Budget
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Starting point for Direct Materials Purchases Budget
Starting point for Direct Labor Budget
Schedule 2 (in thousands)
Preparing the Operating Budget
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Goes to Cost of Goods Sold Budget
Schedule 3 (in thousands)
Preparing the Operating Budget
* Follows the inventory policy of having 8 million pounds of materials on hand at the end of the first and second quarters and 5 million pounds on handat the end of the third and fourth quarters.
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Goes to Cost of Goods Sold Budget
Schedule 4 (in thousands)
Starting point for Overhead Budget
Preparing the Operating Budget
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Goes to Cost of Goods Sold Budget
Schedule 5 (in thousands)
Preparing the Operating Budget
*Includes $200,000 of depreciation in each quarter.
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aAmounts taken from Schedule 3.
bAmounts taken from Schedule 4.
cAmounts taken from Schedule 5.
dBudgeted fixed overhead (Schedule 5)/Budgeted direct labor hours (Schedule 4) = $1,280/240 = $5.33.
Goes to Cost of Goods Sold Budget
Schedule 6 (in thousands)
Preparing the Operating Budget
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*Production needs $0.01 = 416,000 $0.01.
Goes to Budgeted Income Statement
Schedule 7 (in thousands)
Preparing the Operating Budget
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Goes to Budgeted Income Statement
Schedule 8 (in thousands)
Preparing the Operating Budget
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Goes to Budgeted Income Statement
Schedule 9 (in thousands)
Preparing the Operating Budget
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Goes to Budgeted Income Statement
Schedule 10 (in thousands)
Preparing the Operating Budget
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Schedule 11 (in thousands)
Preparing the Operating Budget
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Operating Budgets forMerchandising and Service Firms
Merchandising
Merchandise purchases replaces production
Direct materials and direct labor are not required
For-profit service: Sales budget is the production budget
Inventories are nonexistent
Not-for-profit service:
Budget for level and types of services provided
Statement of sources and uses replaces incomestatement
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Preparing the Financial Budget
Cash budget Break down into short time periods
Forecast need for short-term borrowing
Forecast periods of high cash balances
Beginning cash balance+ Cash receipts
Cash available Cash disbursements
Minimum cash balanceExcess or deficiency of cash
Repayments+ Loans+ Minimum cash balance
Ending cash balance
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(Continued on next slide)
Schedule 12 (in thousands)
Preparing the Financial Budget
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(Continued from previous slide)
(Continued on next slide)
Schedule 12 (in thousands)
Preparing the Financial Budget
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(Continued from previous slide)
Schedule 12 (in thousands)
Preparing the Financial Budget
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Preparing the Financial Budget
Budgeted balance sheet
Current (actual) balance sheet
Integrate data from all other budgets
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Schedule 13 (in thousands)
Preparing the Financial Budget
a Ending balance from Schedule 12.b 30 percent of fourth-quarter credit
sales (0.30 $800,000); seeSchedules 1 and 12.
c From Schedule 3 (5,000,000 lbs. $0.01).
d From Schedule 6.e From the December 31, 2009,
balance sheet.f December 31, 2009, balance
($9,000,000) plus new equipmentacquisition of $600,000; see the2009 ending balance sheet andSchedule 12.
g From the December 31, 2009,balance sheet and Schedules 5, 8,and 10 ($4,500,000 + $800,000 +
$20,000 + $40,000).h 20% of fourth-quarter purchases;
see Schedules 3 and 12.i From the December 31, 2009,
balance sheet.j $6,825,000 + $894,000 (December
31, 2009, balance plus net incomefrom Schedule 11).
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Shortcomings of the TraditionalMaster Budget Process
Departmental orientation
Plan from resources to outputs
Does not recognize interdependencies among
departments Static budgets
Developed for a single level of activity
Based on incremental adjustments
Results orientation
Disconnects the process from its output
Cost-cutting accomplished by across-the-board cuts
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Flexible Budgetsfor Planning and Control
Static budget
Vital for planning
Less useful for control
Masterbudget
Developed around asingle level of activity
Budgeted activitylevel rarely equalsactual activity
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Flexible Budgetsfor Planning and Control
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Flexible Budgetsfor Planning and Control
Static budgets
Masterbudget
Vital for planning
Less useful for control
Developed around asingle level of activity
Budgeted activitylevel rarely equalsactual activity
Flexible budgets
Variable budget
Provides expected
costs for a range ofactivity
Provides budgeted
costs for the actualactivity level
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Flexible Budgetsfor Planning and Control
Flexible budgetperformance report Compare budgeted costs
given the actual level ofactivity to the actual costs
for the same level Locate possible problem
areas by examining theflexible budget variances
Examines efficiency
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Actual
results
Flexible
budget
Units produced 3,000 3,000 -
Production costs:Direct materials 927.3$ 780.0$ 147.3$ U
Direct labor 360.0 360.0 - U
Supplies 80.0 90.0 (10.0) F
Indirect labor 220.0 210.0 10.0 U
Power 40.0 60.0 (20.0) F
Supervision 90.0 100.0 (10.0) FDepreciation 200.0 200.0 -
Rent 30.0 20.0 10.0 U
Total Costs 1,947.3$ 1,820.0$ 127.3$ U
Flexible
budget
variances
Managerial Performance Report: Quarterly Production(in thousands)
Flexible Budgetsfor Planning and Control
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Flexible Budgetsfor Planning and Control
Flexible budget
performance report
Compare budgeted costsgiven the actual level of
activity to the actual costsfor the same level
Locate possible problemareas by examining theflexible budget variances
Examines efficiency
Managerialperformance report Flexible budget variances
Actual results vs.flexible budget
Examines efficiency
Volume variances
Static budget vs.flexible budget
Examines effectiveness
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Flexible Budgetsfor Planning and Control
Actual
results
Flexible
budget
Static
budget
Units produced 3,000 3,000 - 2,400 600 F
Production costs:Direct materials 927.3$ 780.0$ 147.3$ U 624.0$ 156.0$ U
Direct labor 360.0 360.0 - U 288.0 72.0 U
Supplies 80.0 90.0 (10.0) F 72.0 18.0 U
Indirect labor 220.0 210.0 10.0 U 168.0 42.0 U
Power 40.0 60.0 (20.0) F 48.0 12.0 U
Supervision 90.0 100.0 (10.0) F 100.0 -Depreciation 200.0 200.0 - 200.0 -
Rent 30.0 20.0 10.0 U 20.0 -
Total Costs 1,947.3$ 1,820.0$ 127.3$ U 1,520.0$ 300.0$ U
Flexible
budget
variances
Managerial Performance Report: Quarterly Production(in thousands)
Volume
variances
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Flexible Budgetsfor Planning and Control
A flexible budget can be built for five overhead activities using threedrivers; each is budgeted for two activity levels.
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Flexible Budgetsfor Planning and Control
The activity-based performance report measures budget variances foreach of the overhead activities.
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Activity-Based Budgets
ABB begins with output and thendetermines the resources necessary tocreated that output.
ABB works backwards from activities andtheir drivers to the underlying costs Traditional budgeting relies on functional-
based line items (salaries, supplies, etc.)
Flexible budget uses cost behavior to splitfunctional-based line items into fixed andvariable
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Activity-Based Budgets
Traditional budgeting relies on functional-basedline items.
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Activity-Based Budgets
Flexible budgeting uses cost behavior to splitfunctional-based line items into fixed andvariable costs.
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Activity-Based Budgets
Steps to construct an ABB
1.Determine the units output
2. Identify the activities (and related drivers)
needed to deliver the output
3. Estimate the demand for each activity
4. Determine the cost of resources required to
produce the relevant activities
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Activity-Based Budgets
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The Behavioral Dimensionof Budgeting
Characteristics of a good budgetarysystem
Frequent feedback on performance
Monetary and nonmonetary incentives
Participative budgeting
Realistic standards
Controllability of costs
Multiple measures of performance
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COST MANAGEMENT
Guan Hansen Mowen
COPYRIGHT 2009 South-Western Publishing, a division of Cengage Learning. 42
End Chapter 8