Purposes of Budgeting Systems

Budget
1. Planning
a detailed plan,
2. Facilitating Communication
expressed in and Coordination
quantitative terms, that 3. Allocating Resources
specifies how resources
4. Controlling Profit and
will be acquired and Operations
used during a specified
5. Evaluating Performance
period of time. and Providing Incentives
 Types of Budgets

Detail
Budget
Detail
Budget
Detail

Production
Budget
Master
Budget
Covering all
phases of
a company’s
operations.

2
 Sales of Services or Goods

Ending
Inventory Production
Budget Budget
Work in Process
and Finished
Goods

Ending Direct Direct Selling and

Overhead
Inventory Materials Labor Administrative
Budget Budget Budget Budget
Budget
Direct Materials

Cash Budget
Budgeted Income
Statement
Budgeted Balance
Sheet
Budgeted Statement of
Cash Flows
3
 Activity-Based Costing versus Activity-
Based Budgeting
Resources Resources
Activity-Based
Costing (ABC)

Activities Activities

Activity-Based
Cost objects: Budgeting (ABB)
Forecast of products
products and services and services to be
produced, and produced and
customers served. customers served.
4
 Sales Budget
Breakers, Inc. is preparing budgets for the quarter
ending June 30.
Budgeted sales for the next five months are:
April 20,000 units
May 50,000 units
June 30,000 units
July 25,000 units
August 15,000 units.
The selling price is $10 per unit.
5
 Sales Budget
April May June Quarter

Budgeted
sales (units) 20,000 50,000 30,000 100,000
Selling price
per unit $ 10 $ 10 $ 10 $ 10
Total
Revenue $ 200,000 $ 500,000 $ 300,000 $ 1,000,000

6
 Production Budget

The management of Breakers, Inc. wants ending

inventory to be equal to 20% of the following
month’s budgeted sales in units.

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

Let’s prepare the production budget.

7
 From
sales
Production Budget
budget May sales 50,000 units
Desired percent 20%
April May June Quarter
Desired inventory 10,000 units
Sales in units 20,000 50,000 30,000 100,000
Add: desired Ending inventory becomes beginning
end. inventory 10,000 6,000 inventory 5,000
the next month5,000
Total needed 30,000 56,000 35,000 105,000
Less: beg.
inventory 4,000 10,000 6,000 4,000
Units to be
produced 26,000 46,000 29,000 101,000

March 31
ending inventory
8
 Direct-Material Budget
• At Breakers, five pounds of material are required per
unit of product.
• Management wants materials on hand at the end of
each month equal to 10% of the following month’s
production.
• On March 31, 13,000 pounds of material are on hand.
Material cost $.40 per pound.

Let’s prepare the direct materials budget.

9
 From our
production
Direct-Material Budget
budget
April May June Quarter
Production in units 26,000 46,000 29,000 101,000
Materials per unit 5 5 5 5
Production needs 130,000 230,000 145,000 505,000
Add: desired
ending inventory 23,000 14,500 11,500 11,500
Total needed 153,000 244,500 156,500 516,500
Less: beginning
inventory 13,000 23,000 14,500 13,000
Materials to be
purchased 140,000 221,500 142,000 503,500

10% of the following March 31

month’s production inventory
10
 Direct-Material Budget
July Production
Sales in units April 25,000 May June Quarter
Add: Production in units
desired ending inventory26,000 3,000 46,000 29,000 101,000
TotalMaterials
units needed
per unit 528,000 5 5 5
Less:Production
beginning inventory
needs 130,000 5,000 230,000 145,000 505,000
Production in units 23,000
Add: desired
ending inventory 23,000 14,500 11,500 11,500
Total needed 153,000 244,500 156,500 516,500
Less: beginning
inventory June Ending Inventory
13,000 23,000 14,500 13,000
July
Materials toproduction
be in units 23,000
Materials per unit
purchased 140,000 221,500 5142,000 503,500
Total units needed 115,000
Inventory percentage 10%
June desired ending inventory 11,500

11
 Direct-Labor Budget
• At Breakers, each unit of product requires 0.1 hours of
direct labor.
• 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 agreed to a
wage rate of $8 per hour regardless of the hours worked
(No overtime pay).
• For the next three months, the direct labor workforce will
be paid for a minimum of 3,000 hours per month.
Let’s prepare the direct labor budget.

12
 Direct-Labor Budget
April May June Quarter
Production in units 26,000 46,000 29,000 101,000
Direct labor hours 0.10 0.10 0.10 0.10
Labor hours required 2,600 4,600 2,900 10,100
Guaranteed labor
hours 3,000 3,000 3,000
Labor hours paid 3,000 4,600 3,000 10,600
Wage rate $ 8 $ 8 $ 8 $ 8
Total direct labot cost $ 24,000 $ 36,800 $ 24,000 $ 84,800

From our This is the greater of

production labor hours required or
budget labor hours guaranteed.
13
 Overhead Budget
Here is Breakers’ Overhead Budget for the quarter.
April May June Quarter

Indirect labor $ 17,500 $ 26,500 $ 17,900 $ 61,900

Indirect material 7,000 12,600 8,600 28,200
Utilities 4,200 8,400 5,200 17,800
Rent 13,300 13,300 13,300 39,900
Insurance 5,800 5,800 5,800 17,400
Maintenance 8,200 9,400 8,200 25,800
$ 56,000 $ 76,000 $ 59,000 $ 191,000

14
 Flexible Budgets

Static budgets are

prepared for a single,
planned level of activity.
Performance evaluation
for overhead is difficult
when actual activity
differs from the planned
level of activity.
 Flexible Budgets

Central Concept

If you can tell me what your activity was

for the period, I will tell you what your costs and
revenue should have been.

16
Advantages of Flexible Budgets
Show revenues and expenses
that should have occurred at the
actual level of activity.

May be prepared for any activity

level in the relevant range.

Reveal variances due to good cost

control or lack of cost control.

Improve performance evaluation.

17
 Preparing a Flexible Budget
Variable Total Flexible Budgets
Cost Fixed 8,000 10,000 12,000
Per Hour Cost Hours Hours Hours
Machine hours 8,000 10,000 12,000
Variable costs
Indirect
Note: laboris no flex4.00
There $ 32,000 $ 40,000 $ 48,000
inIndirect material
the fixed costs. 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
18
 Preparing a Flexible Budget
Variable Total Flexible Budgets
Cost Fixed 8,000 10,000 12,000
Per Hour Cost Hours Hours Hours
Machine hours 8,000 10,000 12,000
Variable costs Total budgeted
Indirect labor overhead cost
4.00 $ 32,000 = $ 40,000 $ 48,000
Indirect material 3.00 24,000 30,000 36,000
Budgeted variable0.50 Total
Power 4,000 5,000 6,000
Budgeted
$ 75,000fixed
overhead
Total variable costcost$ per
×
7.50 activity $ 60,000
+ overhead cost
$ 90,000
activity unit
Fixed costs units
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
19
 Flexible Budget
Performance Report
Variable Total
Cost Fixed Flexible Actual
. Per Hour Costs Budget Results Variances
Machine hours 8,000 8,000 0
Variable costs
Indirect labor $ 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 F
Total variable costs $ 7.50 $ 60,000 $ 63,300 $ 3,300 U
Fixed Expenses
Depreciation $12,000 $ 12,000 $ 12,000 0
Insurance 2,000 2,000 2,000 0
Total fixed costs $ 14,000 $ 14,000 0
Total overhead costs $ 74,000 $ 77,300 $ 3,300 U

20
 Illustration # 1
The company makes three products, P1, P2, and P3, using three raw materials M1, M2 and
M3 by three grades of labor W1, W2 and W3.

The following information given:

Details for compilation of standard costs and selling prices:

Direct Standard P1 P2 P3
Materials price per Per Kg Unit of Kg Product
kg (Rs.) Rs. Rs.
M1 0.25 56 - -
M2 0.40 - 145 -
M3 0.60 - - 90

Direct Std. rate Hours Hours Hours

Wages per hour
W1 0.75 20 - -
W2 0.80 - 40 -
W3 0.50 - - 60
21
 Illustration # 1
• Production overhead is absorbed on a basis of direct labor hours. Administrative,
selling and distribution expenses are absorbed on the basis of 25% of production
cost.

• Profit if calculated at 16 2/3% of selling price, the Budget details includes:

P1 P2 P3
Rs. Rs. Rs.
Sales for the year, at standard selling prices 369,600 432,000 693,000
Finished goods stock values at standard prime costs:
at January 1 40,600 72,000 69,600
at December 31 34,800 90,000 69,600

W1 W2 W3
Hours Hours Hours
Direct labor hours 112,000 96,000 210,000
Production Overhead (Rs. 313,500)
M1 M2 M3
Rs. Rs. Rs.

Raw material - Stock value at standard Cost:

at January 1 13,000 26,800 50,400
at December 31 13,750 28,400 48,000
22
 Illustration # 1
• Required:
You are required to prepare for S limited for
the year commencing January 1, 2013.

(a) Sale price per unit

(b) Sale budget in units
(c) The production budget
(d) The purchase budget

23
 Solution#1)
products P-1 P-2 P-3
Rs Rs Rs
Material cost (W1) 14 58 57
Labor cost (W2) 15 32 30
prime cost 29 90 87
overhead absorbed@0.75 /lh (W3) 15 30 45
Production cost 44 120 132

Add Aman &sell expenses 11 30 33

Total cost 55 150 165

Add profit @ 20% of total cost 11 30 33

a) Sale price per unit 66 180 198 24

 Solution#1)
Total sales in Rs. (Given) 369,600 432,000 693,000

b) Sales in units (Total Given Sales ÷

Sales Price per unit as in a) above) * 5,600 2,400 3,500
*369600/66 432000/180 693000/198

c) Production budget in units:-

Sales 5600 2400 3500

Add closing stock (W4) 1200 1000 800

Less opening stock (W4) 1400 800 800

Production budget(units) 5400 2600 3500

25
 Solution#1) Continued
d) Purchase budget(in kgs):-

M1 M2 M3

Consumption (Kgs) (W5) 302,400 377,000 315,000

Add closing stock (W5) 55,000 71,000 80,000

Less opening stock (W5) 52,000 67,000 84,000

Purchases (in kgs) 305,400 381,000 311,000

Rate per kg in Rs. 0.25 0.40 0.60

purchases (in Rs.) 76,350 152,400 186,600

26
 Solution # 1 Workings
Working#1) Material Cost:

P1 56x0.25=14 P2 145x0.40=58 P3 95x0.60=57

Working#2) Labour Cost:

P1 20x0.75=15 P240x0.80=32 P3 60x0.50=30

Working#3) Calculation of OH Rate:

Rs. 313,500/41,800 labour hours=0.75
Overhead Rate per hour

Working#4) Calculation of Closing & Opening Stock:

p1 p2 p3
Closing 34,800/29=1200 90,000/90=1000 69,600/87=800
Opening 40,600/29=1400 72,000/90=800 69,600/87 =80027
 Solution#1) Workings

Working # 5 Calculation of Consumption, Closing & Opening Stock:

P1 m1 5400x56 = 302,400 Kgs m2 2600x145=377,000 Kgs m3 3500x90=315,000 Kgs

P2 m1 13,750/0.25=55,000 m2 28,400/0.4=71,000 m3 48000/0.6=80,000

P3 m1 13,000/0.25=52,000 m2 26,800/0.4=67,000 m3 50,400/0.60=84,000

28
 Illustration#2)
Fresh Pak Corporation manufactures two types of
cardboard boxes used in shipping canned food; fruit, and
vegetables. The canned food box (type C) and the
perishable food box (type P) have the following material
and labor requirements.
Type of Box

C P

Direct material required per 100 boxes:

Paperboard (Rs. 0.20 per pound) 30 pounds 70 pounds

Corrugating medium (Rs. 0.10 per pound) 20 pounds 30 pounds

Direct labor required per 100 boxes ($12.00 per hour) 0.25 hour 0.50 hour

29
 Illustration # 2
• The following manufacturing-overhead costs are anticipated of the
nest year. The predetermined overhead rate is based on production
volume of 495,000 units for each type of box. Manufacturing
overhead is applied on the basis of direct-labor hours.
Rs.
Indirect material 10,500
Indirect labor 50,000
Utilities 25,000
Property taxed 18,000
Insurance 16,000
Depreciation 29,000
Total 148,500

30
 Illustration # 2
• The following selling and administrative
expenses are anticipated for the next year.
Salaries and fringe benefits of sales personnel 75,000
Advertising 15,000
Management salaries and fringe benefits 90,000
Clerical wages fringe benefits 26,000
Miscellaneous administrative expenses 4,000
Total 210,000
The sales forecast for the next year is a follows:

Sales volume Sales price

Box type C 500,000 boxes Rs. 90,000 per hundred boxes

Box type P 500,000 boxes 130.00 per hundred boxes

31
 Illustration # 2
The following inventory information is available
for the next year.
Expected Desired Ending Inventory
Inventory December 31
Finished goods:
Box type C 10,000 boxes 5,000 boxes
Box type P 20,000 boxes 15,000 boxes
Raw material:
Paperboard 15,000 pounds 5,000 pounds
Corrugating medium 5,000 pounds 10,000 pounds

32
 Illustration # 2
Required:
• Prepare a master budget for Fresh Pak Corporation for the next
year. Assume an income tax rate of 40 percent. Include the
following schedules:
1. Sales budget
2. Production budget
3. Direct-material budget
4. Direct-labor budget
5. Manufacturing-overhead budget
6. Selling and administrative expense budget
7. Budgeted income statement (Hint: to determine cost of goods
sold, first compute the manufacturing cost per unit for each type
of box. Include applied manufacturing overhead in the cost.)

33
 Solution # 2
1. Sales Budget:

Box C Box P Total

Sales (in units) 500,000 500,000

Sales price per unit x * .90 x 1.30
Sales revenue 450,000 650,000 1,100,000

2. Production Budget (Units)

Box C Box P
Sales 500,000 500,000
Add: Desired ending inventory 5,000 15,000
Total units needed 505,000 515,000
Deduct: Beginning Inventory 10,000 20,000
Production requirements 495,000 495,000

34
 Solution # 2
3. Raw Material Budget
Box C Box P Total
Rs. Rs. Rs.
Production requirement 495,000 495,000
Raw material required per box (pounds) x * .3 x .7
Raw material required for production
(pounds)
148,500 346,500 495,000
Add: Desired ending
Raw-material inventory 5,000
Total raw-material needs 500,000
Deduct: Beginning raw-material inventory 15,000
Raw material to be purchased 485,000
Price (per pound) Rs. 0.2
Cost of purchases (paperboard) (485,000 X Rs.
0.2) 97,000
35
 Solution # 2
Box C Box P Total
Rs. Rs. Rs.
Production requirement 495,000 495,000
Raw material required per box (pounds) x * .2 x .3
Raw material required for
production (pounds) 99,000 148,500 247,500
Add: Desired ending
Raw-material inventory
10,000
Total raw-material needs 257,500
Deduct: Beginning raw-material inventory
5,000
Raw material to be purchased 252,500
Price (per pound) x
Rs 0.10
Cost of purchases (corrugating medium) Rs.
25,250
Total cost of raw-material purchases
(Rs.97,000 Cost of purchases for paperboard + Rs. 122,250
Rs.25,250 Cost of purchases for corrugating medium)

36
 Solution # 2
4.Direct Labor Budget
Box C Box P Total
Rs. Rs. Rs.
Production requirements (number of boxes) 495,000 495,000

*Direct required per box (hours) x .0025 x .005

direct labor required for production (hours) 1,237.5 2,475 3712.5
Direct-labor rate Rs.12
Total direct-labor cost Rs.44,550
*0.25 hour and 0.5 hour are given for 100 boxes so per box would be equal to
0.25/100=0.0025 and 0.5/100 = 0.005

37
 Solution # 2
5.Manufacturing-overhead budget:
Rs.
Indirect material 10,500
Indirect labor 50,000
Utilities 25,000
Property taxed 18,000
Insurance 16,000
Depreciation 29,000
Total 148,500

38
 Solution # 2

6. Selling income statement:

Rs.
Salaries and fringe benefits of sales personnel 75,000
Advertising 15,000
Management salaries and fringe benefits 90,000
Clerical wages and fringe benefits 26,000
Miscellaneous administrative expenses 4,000
Total selling and administrative expenses 210,000

39
 Solution # 2
7. *Calculation of manufacturing per unit:
Rs. Rs.
Sales revenue [from sales budget, req.(1)] 1,100,000
Less: Cost of goods sold:
Box C: 500,000 x Rs. 0.21* 105,000
Box P: 500,000 x Rs. 0.43* 215,000
Gross margin 320,000
Selling and administrative expenses 780,000
Income before taxes 210,00
Income tax expense (40%) 570,000
Net income 228,000
Calculation of manufacturing cost per unit:
342,000

Pre- determined overhead rate = Budgeted manufacturing overhead

Volume of direct labor hours

Pre- determined overhead rate = Rs. 148,500 (Budgeted manufacturing overhead)

(495,000 *0.0025) + (495,000 * 0.005)

Pre- determined overhead rate = Rs. 148,500 = Rs. 40 per hour 40

3,712.5 hours
 Solution # 2 Box P
Direct material:
Paperboard
* 0 .3lb. x Rs. 0.20 per lb Rs. 0.06
* 0.7 lb/ x Rs. 0.20 per lb Rs. 0.14
Corrugating medium
* 0.20 lb. x Rs. 0.10 per lb 0.02
*0.30 lb/ x Rs. 0.10 per lb 0.03
Direct labor
*0.0025 x Rs. 12 per hr 0.03
*0.005hr x Rs. 12 per hr 0.06
Applied manufacturing overhead:
0.0025 hr x Rs.40 per hr 0.10
0.005 hr x Rs.40 per hr 0.20
Manufacturing cost per unit. Rs. 0.21 Rs. 0.43
* According to question information lb. for paperboard and Corrugating medium is
given for 100 boxes and these values should be divided by 100 to find per box
information .
0.25 hour and 0.5 hour are given for 100 boxes so per box would be equal to
41
0.25/100=0.0025 and 0.5/100 = 0.005