Chapter 9: The Master Budget

I. Purpose of Budgets
A. Planning and Control
1. A budget facilitates planning and control by specifying how resources will
be acquired and used during a period of time
2. It serves as both a financial plan and motivational tool
a) Significant deviations from the budget can be investigated and
responded to
B. Responsibility Accounting
1. Managers are held responsible for those revenue and expense items over
which they have substantial control
C. Participative Budgeting
1. Under a “management by objectives” philosophy, managers are involved in
setting their own budgets
2. More likely to create a sense of “ownership”
3. Tends to result in more accurate forecasts since managers are closest to their
own operations
4. May result in “moral hazard” problem (e.g., budget padding)
II. Master Budget
-The master budget consists of several individual budgets, prepared in the following order:
A. Sales Budget
B. Production Budget
C. DM, DL, and MO Budgets
D. Sales & Administrative Expense Budgets
E. Cash Budget
F. Budgeted Financial Statements

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 Sales of services or goods

Ending inventory
budget (WIG) (FG)
Production Budget

Direct Direct Overhead Selling and

Ending material Labor Budget Admin Budget
inventory budget budget
budget

(Direct Cash budget

material ) Budget of income
statement
Budget balance sheet
Budget statement of
cashflwos

BUDGETING ILLUSTRATION

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Milo Company manufactures beach umbrellas. The company is preparing detailed budgets for the
third quarter and has assembled the following information to assist in the budget preparation:

1. The Marketing Department has estimated sales as follows for the remainder of the year (in
units):

The selling price of the beach umbrellas is $12 per unit. Prepare a sales budget, by month
and in total, for the third quarter (show your budget in both units and dollars):

Month
July August September Quarter
Budgeted sales in units
Selling price per unit 30,000 70,000 50,000 150,000
Budgeted sales *12 *12 *12 *12
360k 840k 600k 1,800,000
2. All sales are on account. Based on past experience, sales are collected in the following
pattern:

Sales for June totaled $300,000. Prepare a schedule of expected cash collections, by month
and in total, for the third quarter:

Month
July August September Quarter
Accounts receivable, June 30:
$300,000*65%
195,000
July sales:

August sales:

September sales:

Total cash collections.............

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3. The company maintains finished goods inventories equal to 15% of the following month's
sales. This requirement will be met at the end of June. Prepare a production budget for
each of the months July–October:

July August September October

Budgeted sales in units 30,000 70,000 50,000 20,000
Add desired ending inventory
(*15% of next month*) 10,500 7,500
Total needs 40,500 77,500
Less beginning inventory
(*15% of this month*) 4,500 10,500
Required production 36,000 67,000

4. Each beach umbrella requires 4 feet of Gilden, a material that is sometimes hard to acquire.
Therefore, the company requires that the ending inventory of Gilden be equal to 50% of the
following month's production needs. The inventory of Gilden on hand at the beginning and
end of the quarter will be:

Prepare a direct materials budget for Gilden, by month and in total, for the third quarter:

Month
July August September Quarter
Required production (above)... 36,000 67,000 45,000 148,500
Raw material needs per unit
(feet)...................................... *4 *4 *4 *4
Production needs (feet)............. 144,000 268,000 182,000 594,000

18,500units*4
Add desired ending ft. *50% =
inventory (feet)...................... 134,000 91,000 37,000
Total needs (feet)...................... 278,000 359,000 219,000
Less beginning
inventory (feet)...................... 72,000 134,000 91,000
Raw materials to be purchased
(feet)...................................... 206,000 225,000 128,000
Cost of raw materials to be
purchased at $0.80 per foot... $164,800 180,000

*18,500 units (October) × 4 feet per unit = 74,000 feet

74,000 feet × ½ = 37,000 feet

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5. Gilden costs $0.80 per foot. One-half of a month's purchases of Gilden is paid for in the
month of purchase; the remainder is paid for in the following month. The accounts payable
on July 1 for purchases of Gilden during June will be $76,000. Prepare a schedule of
expected cash disbursements for Gilden, by month and in total, for the third quarter:

Month
July August September Quarter
Accounts payable,
June 30..................................... 76,000
July purchases:
$164,800*50% 82,400 82,400
August purchases:
$ 180,000*50% 90,000 90,000
September purchases:
$102,400*50% 51,200 51,200
Total cash payments..................... 158,400 172,400 141,200 472,000

6. Lastly, using the schedules of cash collections and disbursements above, prepare a
summary cash budget. Milo Company’s cash balance at June 30 was $502,000:

Month
July August September Quarter
Beginning cash balance,
June 30..................................... 502,000 646,600 960,200 502,000
Add: cash collections,
from expected cash above (#2) 303,000 486,000 726,000 1,515,000
Total cash available...................... 805,000 1,132,600 1,686,200 2,017,000
Less: disbursements from
Expected cash payments above
(#5) 158,400 172,400 141,200 472,000
Ending cash balance..................... 646,600 960,200 1,545,000 1,545,000
If Milo Company requires an ending cash balance of at least $600,000 at the end of any given
month, will the company need to borrow any cash during the quarter?

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No.