Demonstration Problem

Chapter 14 – Exercise 9

Purchases Budget

AccountingWhat the Numbers Mean 10e

Problem Definition

• Each gallon of Old Guard, a popular after-shave lotion, requires 6 ounces of ocean scent. Budgeted production of Old Guard for the first three quarters of 2013 is:

Quarter I 10,000 gallonsQuarter II 18,000 gallonsQuarter III 11,000 gallons

• Management’s policy is to have on hand at the end of every quarter enough ocean scent inventory to meet 30% of next quarter’s production needs. At the beginning of Quarter I, 18,000 ounces of ocean scent were on hand.

Problem Requirements

a. Calculate the number of ounces of ocean scent to be purchased in each of the first two quarters of 2013.

b. Explain why management plans for an ending inventory instead of planning to purchase each quarter the amount of raw materials needed for that quarter’s production.

Problem Solution

• Calculate the number of ounces of ocean scent to be purchased in each of the first two quarters of 2013:

Problem Solution

• Calculate the number of ounces of ocean scent to be purchased in each of the first two quarters of 2013:

• Step 1:

Set up the “raw material inventory / usage” model and enter all known amounts.

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Qtr I

Calculation:

18,000 beginning inventory amount was given

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000

Add: Purchases

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 Add: Purchases ?

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases ?Raw material available for use

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases ?Raw material available for use ?

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases ? Raw material available for use ?Less: Ending inventory

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases ? Raw material available for use ? Less: Ending inventory (32,400)

Qtr I

Calculation:

30% of next quarter’s usage = 6 ounces * 18,000 gallons * 30%

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases ?Raw material available for use ?Less: Ending inventory (32,400)Usage

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases ?Raw material available for use ?Less: Ending inventory (32,400)Usage 60,000

Qtr I

Calculation:

6 ounces * 10,000 gallons to be produced in Quarter I

Qtr II

Problem Solution

• Step 1:

Set up the “raw material inventory / usage” model and enter all known amounts.

• Step 2:

Working backwards (up the model): - calculate raw materials available for use; - calculate purchases.

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases ?Raw material available for use 92,400Less: Ending inventory (32,400)Usage 60,000

Qtr I

Calculation:

Raw material available for use = Usage + Ending Inventory = 32,400 + 60,000

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases 74,400Raw material available for use 92,400Less: Ending inventory (32,400)Usage 60,000

Qtr I

Calculation:

Purchases = Raw material available for use - Beginning Inventory = 92,400 - 18,000

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases 74,400Raw material available for use 92,400Less: Ending inventory (32,400)Usage 60,000

Qtr I

Next, repeat Step 1 and Step 2 for Quarter II.

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000Add: Purchases 74,400 Raw material available for use 92,400Less: Ending inventory (32,400)Usage 60,000

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400Raw material available for use 92,400Less: Ending inventory (32,400)Usage 60,000

Qtr I

Calculation:

QI Ending Inventory

becomes QII Beginning Inventory

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400Raw material available for use 92,400 Less: Ending inventory (32,400)Usage 60,000

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use 92,400Less: Ending inventory (32,400)Usage 60,000

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use92,400Less: Ending inventory (32,400)Usage 60,000

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use 92,400 ? Less: Ending inventory (32,400)Usage 60,000

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use 92,400 ? Less: Ending inventory (32,400)Usage 60,000

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use 92,400 ? Less: Ending inventory (32,400) (19,800)Usage 60,000

Qtr I

Calculation:

30% of next quarter’s usage = 6 ounces * 11,000 gallons * 30%

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use 92,400 ? Less: Ending inventory (32,400) (19,800)Usage 60,000

Qtr I Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use 92,400 ? Less: Ending inventory (32,400) (19,800)Usage 60,000

108,000

Qtr I

Calculation:

6 ounces * 18,000 gallons to be produced in Quarter II

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 ?Raw material available for use 92,400 127,800 Less: Ending inventory (32,400) (19,800)Usage 60,000

108,000

Qtr I

Calculation:

Raw material available for use = Usage + Ending Inventory = 108,000 + 19,800

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 95,400Raw material available for use 92,400 127,800 Less: Ending inventory (32,400) (19,800)Usage 60,000

108,000

Qtr I

Calculation:

Purchases = Raw material available for use - Beginning Inventory = 127,800 - 32,400

Qtr II

Problem Solution

• Raw material inventory / usage model:

Beginning Inventory 18,000 32,400

Add: Purchases 74,400 95,400Raw material available for use 92,400 127,800 Less: Ending inventory (32,400) (19,800)Usage 60,000

108,000

Qtr I

The number of ounces of ocean scent to be purchased in each of the first two quarters of 2013

Qtr II

Problem Requirements

a. Calculate the number of ounces of ocean scent to be purchased in each of the first two quarters of 2013.

b. Explain why management plans for an ending inventory instead of planning to purchase each quarter the amount of raw materials needed for that quarter’s production.

Problem Solution

• Why does management plan for an ending inventory instead of planning to purchase each quarter the amount of raw materials needed for that quarter’s production?

Because inventory provides a “cushion” for delivery delays or production needs in excess of the

production forecast.

AccountingWhat the Numbers Mean 10e

David H. MarshallWayne W. McManus

Daniel F. Viele

You should now have a better understanding ofbudgeting for purchases.

Remember that there is a demonstration problem for each chapter that is here for your learning benefit.