Budgeting; direct material usage, manufacturing cost, and gross margin. Xander Manufacturing Company manufactures blue rugs, using wool and dye as direct materials. One rug is budgeted to use 36 skeins of wool at a cost of S2 per skein and 0.8 gallons of dye at a cost of $6 per gallon, All other materials are indirect. At the beginning of the year Xander has an inventory of 458,000 skeins of woo! at a cost of $961,800 and 4,000 gallons of dye at a cost of $23,680. Target ending inventory of wool and dye is zero. Xander uses the FIFO inventory cost-flow method Xander blue rugs are very popular and demand is high, but because of capacity coastraints the firm will produce only 200,000 blue rugs per year. The budgeted selling price is $2,000 cach. There arc no rugs in beginning inventory. Target ending inventory of rugs is also zero. ‘Xander makes rugs by hand, but uses a machine to dye the wool, Thus, overhead costs are accumulated in two cost pools—one for weaving and the other for dyeing. Weaving overhead is allocated to products based on direct manufecturing labor-hours (DMLH). Dyeing overhead is allocated to products based on machine-hours (MH). There is no direct manufacturing labor cost for dycing. Xander budgets 62 direct manufacturing labor-hours to weave a Tug at a budgeted rate of $13 per hour. It budgets 0.2 machine-hours to dye each skein in the dyeing process. The following table presents the budgeted overhead costs for the dyeing and weaving cost pools: Dyeing Weaving (based on 1,440,000 MH) (based on 12,400,000 DMLH) Variable costs Indirect materials s 0 319,400,000 Maintenance 6,560,000, 545,000 Utilities 7,550,000 2,890,000 Fixed costs Indirect labor 347/000 1,700,000 Depreciation 2,100,000, 274,000 Other 723,000 0 Total budgeted costs ‘517,280,000 ‘$31,620,000 Required: Prepare a direct materials usage budget in both units and dollars, Calculate the budgeted overhead allocation rates for weaving and dyeing. Caleulate the budgeted unit cost of a blue rug for the year, Prepare a revenues budget for bluc rugs for the year, assuming Xander sells (a) 200,000 of (b) 185,000 blue mugs (that is, at two different sales levels). Calculate the budgeted cost of goods sold for blue rugs under each sales assumption. Find the budgeted gross margin for blue rugs under each sales assumption. 7. What actions might you take as a manager to improve profitability if sales drop to 185,000 blue rugs? 8. How might top management at Xander use the budget developed in requi aupe ae ments 1-6 tobetter manage the company? SOLUTION Budgeting: direct material usage, manufacturing cost, and gross margin, 1. Direct Material Usage Budget in Quantity and Dollars Material Wool Dye Total Physical Units Budget Direct materials required for Bluc Rugs (200.000 rugs x 36 skcins and 0.8 gal.) 7,200,000 skeins 160,000 gal. Cost Budget Available from beginning direct materials inventory: (a) Wool: 458,000 skeins $ 961,800 Dye: 4,000 gallons $ 23,680 To be purchased this period: (b) ‘Wool: (7,200,000— 458,000) skeins x $2 per skein 13,484,000 Dye: (160,000 - 4,000) gal. $6 per gal —____ 936,000 Direct materials to be used this period: (a) + () $14,445,800. $.959,680815,405,480 2. Weaving budgeted —23/.620,000__ overhead rate = 12,400,000 DMLH ~ 59 55 per DMLH Dyeing budgeted —17.280,000_ Overhead rate — 1,440,000 MH 519 per MEL 3. Budgeted Unit Cost of Blue Rug Input per Cost per Unit of Unit of Input Output Total Wool $2 36skeins $72.00 Dye 6 0.8 gal. 4.80 Direct manufacturing labor 1B 62 hrs. 806.00 Dyeing overhead 12 7.2! mach-hrs, 86.40 Weaving overhead 2.55 62 DMLH 58.10 Total SL12731 19.2 machine hour per skein —36 skeins per rug = 7.2 machine-hrs. per rug.Revenue Budget Selling Units __ Price Blue Rugs 200,000 $2,000 $400,000, Blue Rugs 185,000 $2,000 $370,000,000 Sa Sales = 200,000 rugs Cost of Goods Sold Budget From Schedule Total Beginning finished goods inventory $ 0 Direct materials used S 15,405,480 Direct manufacturing labor (S806 x 200,000) 161,200,000 Dyeing overhead ($86.40 200,000) 17,280,000 Weaving overhead ($158.10 = 200,000) —11.620,000 — _225,505.480 225,505,480 Deduct ending finished goods inventory 0 Cost of goods sold $225,505,480 Sb. Sales = 185,000 rugs Production = 200,000 rugs Cost of Goods Sold Budget From Schedule Total Beginning finished goods inventory $ 0 Direct materials used $ 15,405,480 Direct manufacturing labor ($806 x 200,000) 161,200,000 Dyeing overhead (86.40 « 200,000) 17,280,000 Weaving overhead ($158.10 * 200,000) 31,620,000 Cost of goods available for sale 225,505,480 Deduct ending finished goods inventory ($1,127.30 15,000) 16,909,500 Cost of goods sold $208,595.980 Some students assume that Xander will produce only 185,000 rugs to match 185,000 rugs that ar expected to be sold and carry no finished good inventory of the rugs. In this case the Cost of goods sold budget will be as follows. The Cost of Goods Sold budget is higher because the fixed overhead costs in the dyeing and weaving cost pools do not get “inventoried” in the closing inventory of rugs but are instead expensed in the current period.Sales = 185,000 rugs Cost of Goods Sold Budget for Producing 185,000 rugs From Schedule Total Beginning finished goods inventory $ 0 Direct materials used’ $ 14,253,480 Direct manufacturing labor ($806 * 185,000) 149,110,000 Variable dyeing overhead ($70.55° x 185,000) 13,051,750 Fixed dycing overhead 3,170,000 Variable weaving overhead ($119.15! x 185,000) 22,042750 Fixed weaving overhead 7,790,000 — _209,417,980 Cost of goods available for sale 209,417,980 Deduct ending finished goods inventory Cost of goods sold $209,417,980 °18961,800 + (185,000 rugsx36 skeins-458,000)$2] + [523,680 + (185,000 rugsx0.8 gallons—4,000)%S6] Variable dyeing overhead cost per rug = ($6,560,000 ~ $7,550,000) ~ 200,000 rugs = $70.55 per tug ‘Fixed dyeing overhead costs = $347,000 + $2,100,000 + $723,000 = $3,170,000 ‘Variable weaving overhead cost per rag ~ ($15,400,000 + $5,540,000 + $2,890,000) = 200,000 rugs ~ $119.15 per rug “Fixed weaving overhead costs = $1,700,000 + $274,000 + $5,816,000 = $7,790,000 185,000 rugs sold 185,000 rugs sold 200,000 rugs sold __ 200,000 rugs produced 185,000 rugs produced. Revenue $400,000,000 $370,000,000 $370,000,000 Less: Cost of goods sold _225,505,480 208,595,980 _209.417,980 Gross margin 374,494,520 $161.404,020 $160.582.020 7. If sales drop to 185,000 blue rugs, Xander should look to reduce fixed costs and produce less to reduce variable costs and inventory costs. 8. Top management can look for ways to increase (stretch) sales and improve quality, efficiency, and input prices to reduce costs in each cost category such as direct materials, direct manufacturing labor, and overhead costs. Top management can also use the budget to coordinate and communicate across different parts of the organization, create a framework for judging performance and facilitating learning, and motivate managers and employees to achieve “stretch” targets of higher revenues and lower costs.