Master Budget and Responsibility Accounting

Master Budget and Responsibility Accounting Chapter 6
2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
6-1
Learning Objective 1 Understand what a master budget is and explain its benefits.
6-2
Budgeting Cycle
Performance planning Providing a frame of reference
Investigating variations
Corrective action Planning again
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The Master Budget

Master Budget
Operating Decisions
Financial Decisions
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Learning Objective 2 Describe the advantages of budgets.
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What are the Advantages of Budgets?

#1 Compels strategic planning
#2
Provides a framework for judging performance
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What are the Advantages of Budgets?

#3 Motivates employees and managers
#4
Promotes coordination and communication
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Strategy, Planning, and Budgets

Long-run Planning Long-run Budgets
Strategy Analysis
Short-run Planning Short-run Budgets
6-8
Time Coverage of Budgets

Budgets typically have a set time period (month, quarter, year). This time period can itself be broken into subperiods. The most frequently used budget period is one year. Businesses are increasingly using rolling budgets.
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Learning Objective 3 Prepare the operating budget and its supporting schedules.
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Operating Budget Example

Hawaii Diving expects 1,100 units to be sold during 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
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Two pounds of direct materials are budgeted per unit at a cost of $2.00 per pound, $4.00 per unit. Three direct labor-hours are budgeted per unit at $7.00 per hour, $21.00 per unit. Variable overhead is budgeted at $8.00 per direct labor-hour, $24.00 per unit. Fixed overhead is budgeted at $5,400 per month.
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Variable nonmanufacturing costs are expected to be $0.14 per revenue dollar. Fixed nonmanufacturing costs are $7,800 per month.
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Production Budget Example

Budgeted sales (units)
+ =
Target ending finished goods inventory (units)
Beginning finished goods inventory (units)

Budgeted production (units)
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Assume that target ending finished goods inventory is 80 units. Beginning finished goods inventory is 100 units. How many units need to be produced?
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Hawaii Diving Production Budget for the Month of August 2004 Units required for sales 1,100 Add ending inv. of finished units 80 Total finished units required 1,180 Less beg. inv. of finished units 100 Units to be produced 1,080
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Direct Materials Usage Budget

Each finished unit requires 2 pounds of direct materials at a cost of $2.00 per pound. Desired ending inventory equals 15% of the materials required to produce next months sales. September sales are forecasted to be 1,600 units. What is the ending inventory in August?
480 pounds
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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
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How many pounds are needed to produce 1,080 units in August? 1,080 2 = 2,160 pounds
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Material Purchases Budget

Hawaii Diving Direct Material Purchases Budget for the Month of August 2004 Units needed for production 2,160 Target ending inventory 480 Total material to provide for 2,640 Less beginning inventory 330 Units to be purchased 2,310 Unit purchase price $ 2.00 Total purchase cost $4,620
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Direct Manufacturing Labor Budget

Each unit requires 3 direct labor-hours at $7.00 per hour. Hawaii Diving Direct Labor Budget for the Month of August 2004 Units produced: 1,080 Direct labor-hours/unit 3 Total direct labor-hours: 3,240 Total budget @ $7.00/hour: $22,680
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Manufacturing Overhead Budget

Variable overhead is budgeted at $8.00 per direct labor-hour. Fixed overhead is budgeted at $5,400 per month.
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Manufacturing Overhead Budget

Hawaii Diving Manufacturing Overhead Budget for the Month of August 2004 Variable Overhead: (3,240 $8.00) $25,920 Fixed Overhead 5,400 Total $31,320
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Ending Inventory Budget

Cost per finished unit: Materials Labor Variable manufacturing overhead Fixed manufacturing overhead Total *$5,400 1,080 = $5
$ 4 21 24 5* $54
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Ending Inventory Budget

What is the cost of the target ending inventory for materials? 480 $2 = $960
What is the cost of the target finished goods inventory?
80 $54 = $4,320
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Cost of Goods Sold Budget

Direct materials used: 2,160 $2.00 $ 4,320 Direct labor 22,680 Total overhead 31,320 Cost of goods manufactured $58,320
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Assume that the beginning finished goods inventory is $5,400. Ending finished goods inventory is $4,320. What is the cost of goods sold?
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Beginning finished goods inventory + Cost of goods manufactured = Goods available for sale Ending finished goods inventory = Cost of goods sold $ 5,400 $58,320 $63,720 $ 4,320 $59,400
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Nonmanufacturing Costs Budget

Hawaii Diving Other Expenses Budget for the Month of August 2004 Variable Expenses: ($0.14 $264,000) $36,960 Fixed expenses 7,800 Total $44,760
6 - 29

Hawaii Diving has budgeted sales of $264,000 for the month of August. Cost of goods sold are budgeted at $59,400. What is the budgeted gross margin?
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Budgeted Statement of Income

Hawaii Diving Budgeted Income Statement for the Month ending August 31, 2004 Sales $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%
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Learning Objective 4 Use computer-based financial planning models in sensitivity analysis.
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Financial Planning Models

Financial planning models are mathematical representations of the interrelationships among operating activities, financial activities, and other factors that affect the master budget.
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Software
Software packages are now readily available to reduce the computational burden and time required to prepare budgets. These packages assist managers to do sensitivity analysis.
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Sensitivity Analysis
Consider Hawaii Diving. What if some parameters in the budget model were to change? For example, what if the selling price is expected to be $230 instead of $240? What are expected revenues?
1,100 $230 = $253,000 instead of $264,000

6 - 35
Sensitivity 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.

6 - 36
Cash Budget
Hawaii Diving has the following collection pattern: In the month of sale: 50% In the month following sale: 27% In the second month following sale: 20%
Uncollectible:
3%
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Cash Budget
Budgeted charge sales are as follows: June July August September $200,000 $250,000 $264,000 $260,000
What are the expected cash collections in August?

6 - 38
Cash Budget
Budgeted Cash Receipts for the Month Ending August 31, 2004 August sales: $264,000 50% $132,000 July sales: $250,000 27% 67,500 June sales: $200,000 20% 40,000 Total $239,500
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Cash Budget
Budgeted Cash Disbursements for the Month Ending August 31, 2004 August purchases $ 4,620 Direct labor 22,680 Total overhead 31,320 Other expenses 9,760* Total $68,380 *Other expenses exclude depreciation
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Cash Budget
Cash Budget for the Month Ending August 31, 2004 Budgeted receipts $239,500 Budgeted disbursements 68,380 Net increase in cash $171,120
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Learning Objective 5 Explain kaizen budgeting and how it is used for cost management.
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What is Kaizen?
The Japanese use the term kaizen for continuous improvement. Kaizen budgeting is an approach that explicitly incorporates continuous improvement during the budget period into the budget numbers.
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Kaizen Budgeting
It was previously estimated that it should take 3 labor-hours for Hawaii Diving to manufacture its product. A kaizen budgeting approach would incorporate future improvements.
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Kaizen Budgeting
Budgeted Hours/Item January March 2004 April June 2004 July September 2004 October December 2004
3.00 2.95 2.90 2.85

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Learning Objective 6 Prepare an activity-based budget.
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Activity-Based Budgeting
Activity-based costing reports and analyzes past and current costs. Activity-based budgeting (ABB) focuses on the budgeted cost of activities necessary to produce and sell products and services.
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Product A Product B Units produced: 880 200 Labor-hours per unit: 3 3 Budgeted setup-hours: 5 5 Total budgeted machine setup related cost is $25,920 per month.
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Total budgeted labor-hours are: Product A: 880 3 2,640 Product B: 200 3 600 Total 3,240 What is the allocation rate per labor-hour?
$25,920 3,240 = $8.00

6 - 49
Total cost allocated to each product line: Product A: $8.00 2,640 = $21,120
Product B: $8.00 600
$ 4,800
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Under ABB, the number of setups is the cost driver. $25,920 budgeted machine setup cost 10 budgeted machine setup-hours = $2,592 allocation rate per machine setup-hour. How much machine setup related costs are allocated to each product line?
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Product A Product B $2,592 5 $12,960 $2,592 5 $12,960 Setup-related cost per unit: Product A: $12,960 880 $14.73 Product B: $12,960 200 $64.80
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Learning Objective 7 Describe responsibility centers and responsibility accounting.
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What is a Responsibility Center?

It is any part, segment, or subunit of a business that needs control. production service
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Types of Responsibility Centers

Cost center Investment center Profit center
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Learning Objective 8 Explain how controllability relates to responsibility accounting.
6 - 56
What is Controllability?
It is the degree of influence that a specific manager has over costs, revenues, or other items in question. A controllable cost is any cost that is primarily subject to the influence of a given responsibility center manager for a given time period.
6 - 57
Controllability
Responsibility accounting focuses on information and knowledge, not control. A responsibility accounting system could exclude all uncontrollable costs from a managers performance report. In practice, controllability is difficult to pinpoint.
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End of Chapter 6
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Master Budget and Responsibility Accounting

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Master Budget and Responsibility Accounting Chapter 6

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

The Master Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Learning Objective 2 Describe the advantages of budgets.

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

What are the Advantages of Budgets?

Provides a framework for judging performance

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

What are the Advantages of Budgets?

Promotes coordination and communication

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Strategy, Planning, and Budgets

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Time Coverage of Budgets

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Operating Budget Example

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Operating Budget Example

Operating Budget Example

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Production Budget Example

Target ending finished goods inventory (units)

Beginning finished goods inventory (units)

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Production Budget Example

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Production Budget Example

Direct Materials Usage Budget

Direct Materials Usage Budget

Direct Materials Usage Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Material Purchases Budget

Direct Manufacturing Labor Budget

Manufacturing Overhead Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Manufacturing Overhead Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Ending Inventory Budget

Ending Inventory Budget

Cost of Goods Sold Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Cost of Goods Sold Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Cost of Goods Sold Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Nonmanufacturing Costs Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Cost of Goods Sold Budget

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Budgeted Statement of Income

Learning Objective 4 Use computer-based financial planning models in sensitivity analysis.

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

Financial Planning Models

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

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

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

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

What are the expected cash collections in August?

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster

2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster