Copyright © 2012 McGraw-Hill Ryerson Limited 9-1 PowerPoint Author: Robert G. Ducharme, MAcc, CA...

Copyright © 2012 McGraw-Hill Ryerson Limited

9-1

PowerPoint Author:

Robert G. Ducharme, MAcc, CAUniversity of Waterloo, School of Accounting and Finance

MANAGERIALACCOUNTINGNinth Canadian Edition GARRISON, CHESLEY, CARROLL, WEBB, LIBBY

MANAGERIALACCOUNTINGNinth Canadian Edition GARRISON, CHESLEY, CARROLL, WEBB, LIBBY

Budgeting

Chapter 9

9-2


The Basic Framework of Budgeting

A budget is a detailed quantitative plan for acquiring and using financial and other resources

over a specified forthcoming time period.

1. The act of preparing a budget is called budgeting.

2. The use of budgets to control an organization’s activity is known as budgetary control.

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9-3


Planning and Control

Planning – involves developing objectives and preparing various budgets to achieve these objectives.

Planning – involves developing objectives and preparing various budgets to achieve these objectives.

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

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

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Advantages of Budgeting

Advantages

Define goalDefine goaland objectivesand objectives

Uncover potentialUncover potentialbottlenecksbottlenecks

CoordinateCoordinateactivitiesactivities

CommunicateCommunicateplansplans

Think about andThink about andplan for the futureplan for the future

Means of allocatingMeans of allocatingresourcesresources

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Responsibility Accounting

Managers should be held responsible for Managers should be held responsible for those items — and those items — and onlyonly those items — those items — that the manager can actually controlthat the manager can actually control

to a significant extent.to a significant extent.

Managers should be held responsible for Managers should be held responsible for those items — and those items — and onlyonly those items — those items — that the manager can actually controlthat the manager can actually control

to a significant extent.to a significant extent.

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Choosing the Budget Period

Operating BudgetOperating Budget

2012 2013 2014 2015

The annual operating budget The annual operating budget may be divided into quarterlymay be divided into quarterly

or monthly budgets.or monthly budgets.

The annual operating budget The annual operating budget may be divided into quarterlymay be divided into quarterly

or monthly budgets.or monthly budgets.

A continuous budget is aA continuous budget is a12-month budget that rolls12-month budget that rolls

forward one month (or quarter)forward one month (or quarter)as the current month (or quarter)as the current month (or quarter)

is completed.is completed.

A continuous budget is aA continuous budget is a12-month budget that rolls12-month budget that rolls

forward one month (or quarter)forward one month (or quarter)as the current month (or quarter)as the current month (or quarter)

is completed.is completed.LO 1

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Participative (Self-Imposed) Budget

A budget is prepared with the full cooperation andA budget is prepared with the full cooperation andparticipation of managers at all levels. A participativeparticipation of managers at all levels. A participative

budget is also known as a budget is also known as a particpative budgetparticpative budget..

S u p erviso r S u p erviso r

M id d leM an ag em en t

S u p erviso r S u p erviso r

M id d leM an ag em en t

Top M an ag em en t

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Advantages of Participative Budgets

1.1. Individuals at all levels of the organization are viewed Individuals at all levels of the organization are viewed as as members of the teammembers of the team whose judgments are valued whose judgments are valued by top management.by top management.

2.2. Budget estimates prepared by front-line managers are Budget estimates prepared by front-line managers are often often more accuratemore accurate than estimates prepared by top than estimates prepared by top managers.managers.

3.3. Motivation is generally higherMotivation is generally higher when individuals when individuals participate in setting their own goals than when the participate in setting their own goals than when the goals are imposed from above.goals are imposed from above.

4.4. A manager who is not able to meet a budget imposed A manager who is not able to meet a budget imposed from above can claim that it was from above can claim that it was unrealisticunrealistic. . Participative budgets eliminate this excuse.Participative budgets eliminate this excuse.

1.1. Individuals at all levels of the organization are viewed Individuals at all levels of the organization are viewed as as members of the teammembers of the team whose judgments are valued whose judgments are valued by top management.by top management.

2.2. Budget estimates prepared by front-line managers are Budget estimates prepared by front-line managers are often often more accuratemore accurate than estimates prepared by top than estimates prepared by top managers.managers.

3.3. Motivation is generally higherMotivation is generally higher when individuals when individuals participate in setting their own goals than when the participate in setting their own goals than when the goals are imposed from above.goals are imposed from above.

4.4. A manager who is not able to meet a budget imposed A manager who is not able to meet a budget imposed from above can claim that it was from above can claim that it was unrealisticunrealistic. . Participative budgets eliminate this excuse.Participative budgets eliminate this excuse.

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Participative (Self-Imposed) Budgets

Participative (self-imposed) budgets should be Participative (self-imposed) budgets should be reviewed by higher levels of management to reviewed by higher levels of management to

prevent “budgetary slack.”prevent “budgetary slack.”

Most companies do not rely exclusively upon Most companies do not rely exclusively upon participative budgets in the sense that top participative budgets in the sense that top

managers usually initiate the budget process managers usually initiate the budget process by issuing broad guidelines in terms of overall by issuing broad guidelines in terms of overall

profits or sales.profits or sales.

Participative (self-imposed) budgets should be Participative (self-imposed) budgets should be reviewed by higher levels of management to reviewed by higher levels of management to

prevent “budgetary slack.”prevent “budgetary slack.”

Most companies do not rely exclusively upon Most companies do not rely exclusively upon participative budgets in the sense that top participative budgets in the sense that top

managers usually initiate the budget process managers usually initiate the budget process by issuing broad guidelines in terms of overall by issuing broad guidelines in terms of overall

profits or sales.profits or sales.

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The Budget Committee

A standing committee responsible for A standing committee responsible for overall policy matters relating to the budgetoverall policy matters relating to the budget coordinating the preparation of the budgetcoordinating the preparation of the budget resolving disputes related to the budgetresolving disputes related to the budget approving the final budgetapproving the final budget

A standing committee responsible for A standing committee responsible for overall policy matters relating to the budgetoverall policy matters relating to the budget coordinating the preparation of the budgetcoordinating the preparation of the budget resolving disputes related to the budgetresolving disputes related to the budget approving the final budgetapproving the final budget

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Behavioural Factors in Budgeting

The success of budgeting depends upon three The success of budgeting depends upon three important factors:important factors:

1.1. Top management must be enthusiastic and Top management must be enthusiastic and committed to the budget process.committed to the budget process.

2.2. Top management must not use the budget to Top management must not use the budget to pressure employees or blame them when pressure employees or blame them when something goes wrong.something goes wrong.

3.3. Highly achievable budget targets are usually Highly achievable budget targets are usually preferred when managers are rewarded based preferred when managers are rewarded based on meeting budget targets.on meeting budget targets.

The success of budgeting depends upon three The success of budgeting depends upon three important factors:important factors:

1.1. Top management must be enthusiastic and Top management must be enthusiastic and committed to the budget process.committed to the budget process.

2.2. Top management must not use the budget to Top management must not use the budget to pressure employees or blame them when pressure employees or blame them when something goes wrong.something goes wrong.

3.3. Highly achievable budget targets are usually Highly achievable budget targets are usually preferred when managers are rewarded based preferred when managers are rewarded based on meeting budget targets.on meeting budget targets.

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Zero-Based Budgeting

A zero-based budget requires managers to justify all budgeted expenditures, not just changes in the budget from the prior year.

Most managers argue that Most managers argue that zero-based budgeting is too zero-based budgeting is too time consuming and costly to time consuming and costly to

justify on an annual basis.justify on an annual basis.

Most managers argue that Most managers argue that zero-based budgeting is too zero-based budgeting is too time consuming and costly to time consuming and costly to

justify on an annual basis.justify on an annual basis.

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The Budget Committee

A standing committee responsible for A standing committee responsible for overall policy matters relating to the budgetoverall policy matters relating to the budget coordinating the preparation of the budgetcoordinating the preparation of the budget

A standing committee responsible for A standing committee responsible for overall policy matters relating to the budgetoverall policy matters relating to the budget coordinating the preparation of the budgetcoordinating the preparation of the budget

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The Master Budget: An Overview

Production budgetProduction budgetSelling and

administrativebudget

Selling andadministrative

budget

Direct materialsbudget

Direct materialsbudget

Manufacturingoverhead budgetManufacturing

overhead budgetDirect labour

budgetDirect labour

budget

Cash BudgetCash Budget

Sales budgetSales budget

Ending inventorybudget

Ending inventorybudget

Budgetedbalance sheet

Budgetedbalance sheet

Budgetedincome

statement

Budgetedincome

statement

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9-15


Budgeting Example

Royal Company is preparing budgets for the Royal Company is preparing budgets for the quarter ending June 30.quarter ending June 30.

Budgeted sales for the next five months are:Budgeted sales for the next five months are: April April 20,000 units20,000 units May May 50,000 units50,000 units June June 30,000 units30,000 units July July 25,000 units25,000 units August August 15,000 units.15,000 units.

The selling price is $10 per unit.The selling price is $10 per unit.

Royal Company is preparing budgets for the Royal Company is preparing budgets for the quarter ending June 30.quarter ending June 30.

Budgeted sales for the next five months are:Budgeted sales for the next five months are: April April 20,000 units20,000 units May May 50,000 units50,000 units June June 30,000 units30,000 units July July 25,000 units25,000 units August August 15,000 units.15,000 units.

The selling price is $10 per unit.The selling price is $10 per unit.

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The Sales Budget

The individual months of April, May, and June are summed to obtain the total projected sales in units

and dollars for the quarter ended June 30th.

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9-17


Expected Cash Collections

All sales are on account.All sales are on account. Royal’s collection pattern is:Royal’s collection pattern is:

70% collected in the month of sale,70% collected in the month of sale, 25% collected in the month following sale,25% collected in the month following sale, 5% uncollectible.5% uncollectible.

The March 31 accounts receivable balance of The March 31 accounts receivable balance of $30,000 will be collected in full.$30,000 will be collected in full.

All sales are on account.All sales are on account. Royal’s collection pattern is:Royal’s collection pattern is:

70% collected in the month of sale,70% collected in the month of sale, 25% collected in the month following sale,25% collected in the month following sale, 5% uncollectible.5% uncollectible.

The March 31 accounts receivable balance of The March 31 accounts receivable balance of $30,000 will be collected in full.$30,000 will be collected in full.

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From the Sales Budget for April.From the Sales Budget for April.From the Sales Budget for April.From the Sales Budget for April.

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From the Sales Budget for May.From the Sales Budget for May.From the Sales Budget for May.From the Sales Budget for May.

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Quick Check

What will be the total cash collections for the quarter? a. $700,000b. $220,000c. $190,000d. $905,000


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Quick Check

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9-24


The Production Budget

ProductionProductionBudgetBudget

Sales Sales BudgetBudget

andandExpectedExpected

CashCashCollectionsCollections

Complete

d

Production must be adequate to meet budgetedProduction must be adequate to meet budgetedsales and provide for sufficient ending inventory.sales and provide for sufficient ending inventory.

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The management at Royal Company wants The management at Royal Company wants ending inventory to be equal to ending inventory to be equal to 20%20% of the of the following month’s budgeted sales in units.following month’s budgeted sales in units.

On March 31, 4,000 units were on hand.On March 31, 4,000 units were on hand.

Let’s prepare the production budget.Let’s prepare the production budget.

The management at Royal Company wants The management at Royal Company wants ending inventory to be equal to ending inventory to be equal to 20%20% of the of the following month’s budgeted sales in units.following month’s budgeted sales in units.

On March 31, 4,000 units were on hand.On March 31, 4,000 units were on hand.

Let’s prepare the production budget.Let’s prepare the production budget.

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March 31March 31ending inventoryending inventory

March 31March 31ending inventoryending inventory

Budgeted May sales 50,000

Desired ending inventory % 20%Desired ending inventory 10,000

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Quick Check

What is the required production for May? a. 56,000 unitsb. 46,000 unitsc. 62,000 unitsd. 52,000 units


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Quick Check

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9-31



Assumed ending inventory.Assumed ending inventory.Assumed ending inventory.Assumed ending inventory.

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The Direct Materials Budget

DirectDirectMaterialsMaterialsBudgetBudget

Production Production BudgetBudget

Complete

d

The direct materials budget details the raw materials The direct materials budget details the raw materials that must be purchased to fulfill the production that must be purchased to fulfill the production budget and to provide for adequate inventories.budget and to provide for adequate inventories.

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At Royal Company, At Royal Company, five poundsfive pounds of material of material are required per unit of product.are required per unit of product.

Management wants materials on hand at Management wants materials on hand at the end of each month equal to the end of each month equal to 10%10% of the of the following month’s production.following month’s production.

On March 31, 13,000 pounds of material On March 31, 13,000 pounds of material are on hand. Material cost is are on hand. Material cost is $0.40$0.40 per per pound.pound. Let’s prepare the direct materials budget. Let’s prepare the direct materials budget.

At Royal Company, At Royal Company, five poundsfive pounds of material of material are required per unit of product.are required per unit of product.

Management wants materials on hand at Management wants materials on hand at the end of each month equal to the end of each month equal to 10%10% of the of the following month’s production.following month’s production.

On March 31, 13,000 pounds of material On March 31, 13,000 pounds of material are on hand. Material cost is are on hand. Material cost is $0.40$0.40 per per pound.pound. Let’s prepare the direct materials budget. Let’s prepare the direct materials budget.

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From production budgetFrom production budgetFrom production budgetFrom production budget

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Calculate the materials toCalculate the materials tobe purchased in May.be purchased in May.

March 31 inventoryMarch 31 inventoryMarch 31 inventoryMarch 31 inventory

10% of following month’s production needs.

10% of following month’s production needs.

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Quick Check

How much materials should be purchased in May? a. 221,500 poundsb. 240,000 poundsc. 230,000 poundsd. 211,500 pounds


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Quick Check

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Assumed ending inventoryAssumed ending inventoryAssumed ending inventoryAssumed ending inventory

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9-41


Expected Cash Disbursement for Materials

Royal pays Royal pays $0.40 per pound$0.40 per pound for its materials. for its materials.

One-half One-half of a month’s purchases is paid for in of a month’s purchases is paid for in the month of purchase; the other half is paid the month of purchase; the other half is paid in the following month.in the following month.

The March 31 accounts payable balance is The March 31 accounts payable balance is $12,000.$12,000.

Let’s calculate expected cash disbursements.Let’s calculate expected cash disbursements.

Royal pays Royal pays $0.40 per pound$0.40 per pound for its materials. for its materials.

One-half One-half of a month’s purchases is paid for in of a month’s purchases is paid for in the month of purchase; the other half is paid the month of purchase; the other half is paid in the following month.in the following month.

The March 31 accounts payable balance is The March 31 accounts payable balance is $12,000.$12,000.

Let’s calculate expected cash disbursements.Let’s calculate expected cash disbursements.

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140,000 lbs. × $.40/lb. = $56,000140,000 lbs. × $.40/lb. = $56,000140,000 lbs. × $.40/lb. = $56,000140,000 lbs. × $.40/lb. = $56,000

Compute the expected cashCompute the expected cashdisbursements for materialsdisbursements for materials

for the quarter.for the quarter.

Compute the expected cashCompute the expected cashdisbursements for materialsdisbursements for materials

for the quarter.for the quarter.

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9-44


Quick Check

What are the total cash disbursements for the quarter? a. $185,000b. $ 68,000c. $ 56,000d. $201,400


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9-45




Quick Check

LO 2

9-46



LO 2

9-47


The Direct Labour Budget

DirectDirectLabourLabourBudgetBudget

DirectDirectMaterials Materials

BudgetBudget

Complete

d

The direct labour budget is a detailed plan The direct labour budget is a detailed plan showing labour requirements over some specific showing labour requirements over some specific

time period.time period.LO 2

9-48



At Royal, each unit of product requires 0.05 hours (3 minutes) of direct labour.

The Company has a “no layoff” policy so all employees will be paid for 40 hours of work each week.

In exchange for the “no layoff” policy, workers agree to a wage rate of $10 per hour regardless of the hours worked (no overtime pay).

For the next three months, the direct labour workforce will be paid for a minimum of 1,500 hours per month.

Let’s prepare the direct labour budget.Let’s prepare the direct labour budget.

At Royal, each unit of product requires 0.05 hours (3 minutes) of direct labour.

The Company has a “no layoff” policy so all employees will be paid for 40 hours of work each week.

In exchange for the “no layoff” policy, workers agree to a wage rate of $10 per hour regardless of the hours worked (no overtime pay).

For the next three months, the direct labour workforce will be paid for a minimum of 1,500 hours per month.

Let’s prepare the direct labour budget.Let’s prepare the direct labour budget.

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From production budget.From production budget.From production budget.From production budget.

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Greater of labour hours requiredGreater of labour hours requiredor labour hours guaranteed.or labour hours guaranteed.

Greater of labour hours requiredGreater of labour hours requiredor labour hours guaranteed.or labour hours guaranteed.

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Quick Check

What would be the total direct labour cost for the quarter if the company follows its no lay-off policy, but pays $15 (time-and-a-half) for every hour worked in excess of 1,500 hours in a month? a. $79,500b. $64,500c. $61,000d. $57,000


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Quick Check

April May June QuarterLabor hours required 1,300 2,300 1,450 Regular hours paid 1,500 1,500 1,500 4,500

Overtime hours paid - 800 - 800

Total regular hours 4,500 $10 45,000$ Total overtime hours 800 $15 12,000$

Total pay 57,000$

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The Manufacturing Overhead Budget

ManufacturingManufacturingOverheadOverhead

BudgetBudget

DirectDirectLabour Labour BudgetBudget

Complete

d

The manufacturing overhead budget provides a The manufacturing overhead budget provides a schedule of all costs of production otherschedule of all costs of production otherthan direct materials and direct labour.than direct materials and direct labour.

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Manufacturing Overhead Budget

At Royal, manufacturing overhead is applied to At Royal, manufacturing overhead is applied to units of product on the basis of direct labour units of product on the basis of direct labour hours.hours.

The variable manufacturing overhead rate is $20 The variable manufacturing overhead rate is $20 per direct labour hour.per direct labour hour.

Fixed manufacturing overhead is $50,000 per Fixed manufacturing overhead is $50,000 per month and includes $20,000 of noncash costs month and includes $20,000 of noncash costs (primarily depreciation of plant assets).(primarily depreciation of plant assets).

Let’s prepare the manufacturing overhead budget.Let’s prepare the manufacturing overhead budget.

At Royal, manufacturing overhead is applied to At Royal, manufacturing overhead is applied to units of product on the basis of direct labour units of product on the basis of direct labour hours.hours.

The variable manufacturing overhead rate is $20 The variable manufacturing overhead rate is $20 per direct labour hour.per direct labour hour.

Fixed manufacturing overhead is $50,000 per Fixed manufacturing overhead is $50,000 per month and includes $20,000 of noncash costs month and includes $20,000 of noncash costs (primarily depreciation of plant assets).(primarily depreciation of plant assets).

Let’s prepare the manufacturing overhead budget.Let’s prepare the manufacturing overhead budget.

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Direct Labour Budget.Direct Labour Budget.Direct Labour Budget.Direct Labour Budget.LO 2

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Total mfg. OH for quarter $251,000Total labour hours required 5,050

= $49.70 per hour *

* * roundedrounded

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Depreciation is a noncash charge.Depreciation is a noncash charge.Depreciation is a noncash charge.Depreciation is a noncash charge.

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The Ending Finished Goods Inventory Budget

EndingEndingFinishedFinishedGoodsGoods

InventoryInventoryBudgetBudget

ManufacturingManufacturingOverhead Overhead

BudgetBudget

Complete

d

After computing unit product costs, the carrying After computing unit product costs, the carrying cost of the unsold units is computed on the cost of the unsold units is computed on the

ending finished goods inventory budget.ending finished goods inventory budget.LO 2

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Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. 0.40$ 2.00$ Direct labour Manufacturing overhead

Budgeted finished goods inventory Ending inventory in units Unit product cost Ending finished goods inventory

Ending Finished Goods Inventory Budget

Direct materialsDirect materialsbudget and information.budget and information.

Direct materialsDirect materialsbudget and information.budget and information.

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Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. 0.40$ 2.00$ Direct labour 0.05 hrs. 10.00$ 0.50 Manufacturing overhead

Budgeted finished goods inventory Ending inventory in units Unit product cost Ending finished goods inventory


Direct labour budget.Direct labour budget.Direct labour budget.Direct labour budget.

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Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. 0.40$ 2.00$ Direct labour 0.05 hrs. 10.00$ 0.50 Manufacturing overhead 0.05 hrs. 49.70$ 2.49

4.99$

Budgeted finished goods inventory Ending inventory in units Unit product cost 4.99$ Ending finished goods inventory ?


Total mfg. OH for quarter $251,000Total labour hours required 5,050

= $49.70 per hour *

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Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. 0.40$ 2.00$ Direct labour 0.05 hrs. 10.00$ 0.50 Manufacturing overhead 0.05 hrs. 49.70$ 2.49

4.99$

Budgeted finished goods inventory Ending inventory in units 5,000 Unit product cost 4.99$ Ending finished goods inventory 24,950$


Production Budget.Production Budget.Production Budget.Production Budget.

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The Selling and Administrative Expense Budget

SellingSellingandand

AdministrativeAdministrativeExpenseExpenseBudgetBudget

EndingEndingFinishedFinishedGoodsGoods

Inventory Inventory BudgetBudgetCom

pleted

The selling and administrative expense budget The selling and administrative expense budget lists the budgeted expenses for areas other lists the budgeted expenses for areas other

than manufacturing.than manufacturing.LO 2

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Selling and Administrative Expense Budget

At Royal, the selling and administrative expenses At Royal, the selling and administrative expenses budget is divided into variable and fixed components.budget is divided into variable and fixed components.

The variable selling and administrative expenses are The variable selling and administrative expenses are $0.50 per unit sold.$0.50 per unit sold.

Fixed selling and administrative expenses are $70,000 Fixed selling and administrative expenses are $70,000 per month.per month.

The fixed selling and administrative expenses include The fixed selling and administrative expenses include $10,000 in costs – primarily depreciation – that are not $10,000 in costs – primarily depreciation – that are not cash outflows of the current month.cash outflows of the current month.

Let’s prepare the company’s selling and administrative Let’s prepare the company’s selling and administrative expense budget.expense budget.

At Royal, the selling and administrative expenses At Royal, the selling and administrative expenses budget is divided into variable and fixed components.budget is divided into variable and fixed components.

The variable selling and administrative expenses are The variable selling and administrative expenses are $0.50 per unit sold.$0.50 per unit sold.

Fixed selling and administrative expenses are $70,000 Fixed selling and administrative expenses are $70,000 per month.per month.

The fixed selling and administrative expenses include The fixed selling and administrative expenses include $10,000 in costs – primarily depreciation – that are not $10,000 in costs – primarily depreciation – that are not cash outflows of the current month.cash outflows of the current month.

Let’s prepare the company’s selling and administrative Let’s prepare the company’s selling and administrative expense budget.expense budget.

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Calculate the selling and administrativeCalculate the selling and administrativecash expenses for the quarter.cash expenses for the quarter.

Calculate the selling and administrativeCalculate the selling and administrativecash expenses for the quarter.cash expenses for the quarter.

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Quick Check

What are the total cash disbursements for selling and administrative expenses for the quarter? a. $180,000b. $230,000c. $110,000d. $ 70,000


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Quick Check

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The Cash Budget

CashCashBudgetBudget

SellingSellingandand

AdministrativeAdministrativeExpense Expense BudgetBudgetCom

pleted

The cash budget pulls together much of the data The cash budget pulls together much of the data developed in the preceding steps and displays it in developed in the preceding steps and displays it in four major sections: receipts, disbursements, cash four major sections: receipts, disbursements, cash

excess or deficiency, and financing.excess or deficiency, and financing.LO 2

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Format of the Cash Budget

The cash budget is divided into four sections:The cash budget is divided into four sections:

1.1. Cash receipts listing all cash inflows excluding Cash receipts listing all cash inflows excluding borrowing;borrowing;

2.2. Cash disbursements listing all payments Cash disbursements listing all payments excluding repayments of principal and interest;excluding repayments of principal and interest;

3.3. Cash excess or deficiency; andCash excess or deficiency; and

4.4. The financing section listing all borrowings, The financing section listing all borrowings, repayments and interest.repayments and interest.

The cash budget is divided into four sections:The cash budget is divided into four sections:

1.1. Cash receipts listing all cash inflows excluding Cash receipts listing all cash inflows excluding borrowing;borrowing;

2.2. Cash disbursements listing all payments Cash disbursements listing all payments excluding repayments of principal and interest;excluding repayments of principal and interest;

3.3. Cash excess or deficiency; andCash excess or deficiency; and

4.4. The financing section listing all borrowings, The financing section listing all borrowings, repayments and interest.repayments and interest.

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The Cash Budget

Royal:Royal: Maintains a 16% open line of credit for $75,000Maintains a 16% open line of credit for $75,000 Maintains a minimum cash balance of $30,000Maintains a minimum cash balance of $30,000 Borrows on the first day of the month and repays Borrows on the first day of the month and repays

loans on the last day of the monthloans on the last day of the month Pays a cash dividend of $49,000 in AprilPays a cash dividend of $49,000 in April Purchases $143,700 of equipment in May and Purchases $143,700 of equipment in May and

$48,300 in June (both purchases paid in cash)$48,300 in June (both purchases paid in cash) Has an April 1 cash balance of $40,000Has an April 1 cash balance of $40,000

Royal:Royal: Maintains a 16% open line of credit for $75,000Maintains a 16% open line of credit for $75,000 Maintains a minimum cash balance of $30,000Maintains a minimum cash balance of $30,000 Borrows on the first day of the month and repays Borrows on the first day of the month and repays

loans on the last day of the monthloans on the last day of the month Pays a cash dividend of $49,000 in AprilPays a cash dividend of $49,000 in April Purchases $143,700 of equipment in May and Purchases $143,700 of equipment in May and

$48,300 in June (both purchases paid in cash)$48,300 in June (both purchases paid in cash) Has an April 1 cash balance of $40,000Has an April 1 cash balance of $40,000

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The Cash Budget

Schedule of ExpectedSchedule of ExpectedCash Collections.Cash Collections.

Schedule of ExpectedSchedule of ExpectedCash Collections.Cash Collections.

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The Cash Budget

Direct LabourDirect LabourBudget.Budget.

Direct LabourDirect LabourBudget.Budget.

ManufacturingManufacturingOverhead Budget.Overhead Budget.

ManufacturingManufacturingOverhead Budget.Overhead Budget.

Selling and AdministrativeSelling and AdministrativeExpense Budget.Expense Budget.

Selling and AdministrativeSelling and AdministrativeExpense Budget.Expense Budget.

Schedule of ExpectedSchedule of ExpectedCash Disbursements.Cash Disbursements.Schedule of ExpectedSchedule of ExpectedCash Disbursements.Cash Disbursements.

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The Cash Budget

Because Royal maintainsBecause Royal maintainsa cash balance of $30,000,a cash balance of $30,000,the company must borrow the company must borrow

$50,000 on its line-of-credit.$50,000 on its line-of-credit.

Because Royal maintainsBecause Royal maintainsa cash balance of $30,000,a cash balance of $30,000,the company must borrow the company must borrow

$50,000 on its line-of-credit.$50,000 on its line-of-credit.

LO 2

9-77


The Cash Budget

Ending cash balance for AprilEnding cash balance for Aprilis the beginning May balance.is the beginning May balance.Ending cash balance for AprilEnding cash balance for Aprilis the beginning May balance.is the beginning May balance.

LO 2

9-78


The Cash Budget

LO 2

9-79


Quick Check

What is the excess (deficiency) of cash What is the excess (deficiency) of cash available over disbursements for June? available over disbursements for June?

a. $ 85,000a. $ 85,000

b. $(10,000)b. $(10,000)

c. $ 75,000c. $ 75,000

d. $ 95,000d. $ 95,000


a. $ 85,000a. $ 85,000

b. $(10,000)b. $(10,000)

c. $ 75,000c. $ 75,000

d. $ 95,000d. $ 95,000

LO 2

9-80



a. $ 85,000a. $ 85,000

b. $(10,000)b. $(10,000)

c. $ 75,000c. $ 75,000

d. $ 95,000d. $ 95,000


a. $ 85,000a. $ 85,000

b. $(10,000)b. $(10,000)

c. $ 75,000c. $ 75,000

d. $ 95,000d. $ 95,000

Quick Check

LO 2

9-81


The Cash Budget

$50,000 × 16% × 3/12 = $2,000$50,000 × 16% × 3/12 = $2,000Borrowings on April 1 andBorrowings on April 1 and

repayment on June 30.repayment on June 30.

$50,000 × 16% × 3/12 = $2,000$50,000 × 16% × 3/12 = $2,000Borrowings on April 1 andBorrowings on April 1 and

repayment on June 30.repayment on June 30.

LO 2

9-82


The Budgeted Financial Statements

Cash Budget

BudgetedFinancial

Statements

Complete

d

After we complete the cash budget, we can After we complete the cash budget, we can prepare the budgeted income statement prepare the budgeted income statement and budgeted balance sheet for Royal.and budgeted balance sheet for Royal.

LO 2

9-83


The Budgeted Income Statement

Royal CompanyBudgeted Income Statement

For the Three Months Ended June 30

Sales (100,000 units @ $10) 1,000,000$ Cost of goods sold (100,000 @ $4.99) 499,000 Gross margin 501,000 Selling and administrative expenses 260,000 Operating income 241,000 Interest expense 2,000 Net income 239,000$

Sales Budget.Sales Budget.Sales Budget.Sales Budget.

Ending FinishedEnding FinishedGoods Inventory.Goods Inventory.Ending FinishedEnding FinishedGoods Inventory.Goods Inventory.

Selling and Selling and AdministrativeAdministrative

Expense Budget.Expense Budget.

Selling and Selling and AdministrativeAdministrative

Expense Budget.Expense Budget.

Cash Budget.Cash Budget.Cash Budget.Cash Budget.

LO 2

9-84


The Budgeted Balance Sheet

Royal reported the following account Royal reported the following account balances prior to preparing its budgeted balances prior to preparing its budgeted

financial statements:financial statements:

• Land – $50,000Land – $50,000• Common shares – $200,000Common shares – $200,000• Retained earnings – $146,150Retained earnings – $146,150• Equipment – $175,000Equipment – $175,000

Royal reported the following account Royal reported the following account balances prior to preparing its budgeted balances prior to preparing its budgeted

financial statements:financial statements:

• Land – $50,000Land – $50,000• Common shares – $200,000Common shares – $200,000• Retained earnings – $146,150Retained earnings – $146,150• Equipment – $175,000Equipment – $175,000

LO 2

9-85


Royal CompanyBudgeted Balance Sheet

June 30

Current assets Cash 43,000$ Accounts receivable 75,000 Raw materials inventory 4,600 Finished goods inventory 24,950 Total current assets 147,550 Property and equipment Land 50,000 Equipment 367,000 Total property and equipment 417,000 Total assets 564,550$

Accounts payable 28,400$ Common shares 200,000 Retained earnings 336,150 Total liabilities and equities 564,550$

11,500 lbs.11,500 lbs.at $0.40/lb.at $0.40/lb.11,500 lbs.11,500 lbs.at $0.40/lb.at $0.40/lb.

5,000 units5,000 unitsat $4.99 each.at $4.99 each.

5,000 units5,000 unitsat $4.99 each.at $4.99 each.

50% of June50% of Junepurchases purchases of $56,800.of $56,800.

50% of June50% of Junepurchases purchases of $56,800.of $56,800.

25% of June25% of Junesales of sales of

$300,000.$300,000.

25% of June25% of Junesales of sales of

$300,000.$300,000.

LO 2

9-86


Royal CompanyBudgeted Balance Sheet

June 30

Current assets Cash 43,000$ Accounts receivable 75,000 Raw materials inventory 4,600 Finished goods inventory 24,950 Total current assets 147,550 Property and equipment Land 50,000 Equipment 367,000 Total property and equipment 417,000 Total assets 564,550$

Accounts payable 28,400$ Common shares 200,000 Retained earnings 336,150 Total liabilities and equities 564,550$

Beginning balance 146,150$ Add: net income 239,000 Deduct: dividends (49,000) Ending balance 336,150$

LO 2

9-87


Static budgetsare prepared fora single, plannedlevel of activity.

Performance evaluation is

difficult when actual activity differs from the planned level of

activity.

Hmm! Comparingstatic budgets withactual costs is likecomparing apples

and oranges.

Static Budgets and Performance Reports

LO 3

9-88


Flexible Budgets

Improve performance evaluation.

May be prepared for any activity level in the relevant range.

Show costs that should have beenincurred at the actual level ofactivity, enabling “apples to apples”cost comparisons.

Reveal variances related tocost control.

Let’s look at CheeseCo.LO 3

9-89


CheeseCo


LO 3

9-90


CheeseCo


LO 3

9-91


U = Unfavourable variance CheeseCo was unable to achieve

the budgeted level of activity.

CheeseCo


LO 3

9-92


CheeseCo

F = Favourable variance that occurs when actual costs are less than budgeted costs.


LO 3

9-93


Since cost variances are favourable, havewe done a good job controlling costs?

CheeseCo


LO 3

9-94


I don’t think Ican answer thequestion usinga static budget.

Actual activity is belowbudgeted activity.

So, shouldn’t variable costsbe lower if actual activity

is lower?


LO 3

9-95


The relevant question is . . .“How much of the favourable cost variance is due to lower activity, and how much is due to good cost control?”

To answer the question,we mustthe budget to theactual level of activity.

The relevant question is . . .“How much of the favourable cost variance is due to lower activity, and how much is due to good cost control?”

To answer the question,we mustthe budget to theactual level of activity.


LO 3

9-96


Preparing a Flexible Budget

To a budget we need to know that: Total variable costs change

in direct proportion to changes in activity.

Total fixed costs remainunchanged within therelevant range. Fixed

Variable

LO 3

9-97



Let’s prepare budgets for CheeseCo.

LO 3

9-98


Cost Total Formula Fixed 8,000 10,000 12,000per Hour Cost Hours Hours Hours

Machine hours 8,000 10,000 12,000

Variable costs Indirect labour 4.00$ Indirect material 3.00 Power 0.50 Total variable cost 7.50$

Fixed costs Depreciation 12,000$ Insurance 2,000 Total fixed costTotal overhead costs

Flexible Budgets


Fixed costs areexpressed as atotal amount.

Variable costs are expressed as a constant amount per hour.

$40,000 ÷ 10,000 hours is$4.00 per hour.

CheeseCo

LO 3

9-99



Machine hours 8,000 10,000 12,000

Variable costs Indirect labour 4.00$ 32,000$ Indirect material 3.00 24,000 Power 0.50 4,000 Total variable cost 7.50$ 60,000$

Fixed costs Depreciation 12,000$ Insurance 2,000 Total fixed costTotal overhead costs

Flexible Budgets


$4.00 per hour × 8,000 hours = $32,000

CheeseCo

LO 3

9-100



CheeseCoCost Total

Formula Fixed 8,000 10,000 12,000per Hour Cost Hours Hours Hours

Machine hours 8,000 10,000 12,000


Fixed costs Depreciation 12,000$ 12,000$ Insurance 2,000 2,000 Total fixed cost 14,000$ Total overhead costs 74,000$

Flexible Budgets

LO 3

9-101



Machine hours 8,000 10,000 12,000

Variable costs Indirect labour 4.00$ 32,000$ 40,000$ Indirect material 3.00 24,000 30,000 Power 0.50 4,000 5,000 Total variable cost 7.50$ 60,000$ 75,000$

Fixed costs Depreciation 12,000$ 12,000$ 12,000$ Insurance 2,000 2,000 2,000 Total fixed cost 14,000$ 14,000$ Total overhead costs 74,000$ 89,000$ ?

Flexible Budgets


Total fixed costsdo not change in

the relevant range.

CheeseCo

LO 3

9-102


Quick Check

What should be the total overhead costs for the Flexible Budget at 12,000 hours?a. $92,500.b. $89,000.c. $106,800.d. $104,000.


LO 3

9-103




Quick Check

Total overhead cost

= $14,000 + $7.50 per hour 12,000 hours

= $14,000 + $90,000 = $104,000LO 3

9-104




Machine hours 8,000 10,000 12,000

Variable costs Indirect labour 4.00$ 32,000$ 40,000$ 48,000$ Indirect material 3.00 24,000 30,000 36,000 Power 0.50 4,000 5,000 6,000 Total variable cost 7.50$ 60,000$ 75,000$ 90,000$

Fixed costs Depreciation 12,000$ 12,000$ 12,000$ 12,000$ Insurance 2,000 2,000 2,000 2,000 Total fixed cost 14,000$ 14,000$ 14,000$ Total overhead costs 74,000$ 89,000$ 104,000$

Flexible Budgets

LO 3

9-105


Let’s prepare a budget performance report for CheeseCo.

Flexible Budget Performance Report

LO 4

9-106


Cost Total Formula Fixed Flexible Actualper Hour Cost Budget Results Variances

Machine hours 8,000 8,000 0



CheeseCoFlexible budget is prepared for the

same activity level (8,000 hours) as

actually achieved.


LO 4

9-107


Quick Check

What is the variance for indirect labour when the flexible budget for 8,000 hours is compared to the actual results?a. $2,000 Ub. $2,000 Fc. $6,000 Ud. $6,000 F


LO 4

9-108




Quick Check

LO 4

9-109




Variable costs Indirect labour 4.00$ 32,000$ 34,000$ $ 2,000 U Indirect material 3.00 25,500 Power 0.50 3,800 Total variable cost 7.50$ 63,300$


CheeseCo


LO 4

9-110


Quick Check

What is the variance for indirect material when the flexible budget for 8,000 hours is compared to the actual results?a. $1,500 Ub. $1,500 Fc. $4,500 Ud. $4,500 F


LO 4

9-111




Quick Check

LO 4

9-112




Variable costs Indirect labour 4.00$ 32,000$ 34,000$ $ 2,000 U Indirect material 3.00 24,000 25,500 1,500 U Power 0.50 4,000 3,800 200 FTotal variable cost 7.50$ 60,000$ 63,300$ $ 3,300 U

Fixed costs Depreciation 12,000$ 12,000$ 12,000$ $ 0 Insurance 2,000 2,000 2,050 50 UTotal fixed cost 14,000$ 14,050$ 50 UTotal overhead costs 74,000$ 77,350$ $ 3,350 U

CheeseCo


LO 4

9-113


Remember the question: “How much of the total variance is due to lower activity and how much isdue to cost control?”


LO 4

9-114


Static Budgets and Performance

How much of the $11,650 favourable variance is due to lower activity and how much is due to cost control?

LO 4

9-115


Difference between original static budgetand actual overhead = $11,650 F.

Overhead Variance Analysis

Static ActualOverhead OverheadBudget at at

10,000 Hours 8,000 Hours

89,000$ 77,350$

Let’s place the flexible budget for

8,000 hours here.


LO 4

9-116


Overhead Variance Analysis

This $15,000F variance is due to lower activity.

Activity

This $3,350Uvariance is due

to poor cost control.

Cost control

Static Flexible ActualOverhead Overhead OverheadBudget at Budget at at

10,000 Hours 8,000 Hours 8,000 Hours

89,000$ 74,000$ 77,350$


LO 4

9-117


Budgeting for Not-for-Profit Entities

With not-for-profit (NFP) entities, there is often no relationship between revenues expected to be received

and expenditures expected to be incurred.

Examples of NFP entities:Examples of NFP entities:

municipal, provincial and federal municipal, provincial and federal governments, hospitals, universities, governments, hospitals, universities,

voluntary associations, etc.voluntary associations, etc.

Examples of NFP entities:Examples of NFP entities:

municipal, provincial and federal municipal, provincial and federal governments, hospitals, universities, governments, hospitals, universities,

voluntary associations, etc.voluntary associations, etc.

The profit motive is replaced with a service orientation in NFP organizations. Budget information is gathered to assist in decisions regarding what programs and expenditures the

entity will undertake.LO 5

9-118


International Aspects of Budgeting

• When a multinational company enters into the budgeting process there are at least three major problems that must be dealt with . . .

1. Fluctuations in foreign currency exchange rates.

2. High inflation rates.

3. Local economic conditions and governmental policies.

LO 5

9-119


End of Chapter 9

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