Budgeting: Principles of Managerial Accounting

Budgeting
11e
Principles of Managerial Accounting
Chapter 6
Prepared by: C. Douglas Cloud
Professor Emeritus of Accounting
Pepperdine University
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
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Reeve Warren Duchac
Learning Objectives
1. Describe budgeting, its objectives, and its impact on
human behavior.
2. Describe the basic elements of the budget process,
the two major types of budgeting, and the use of
computers in budgeting.
3. Describe the master budget for a manufacturing
company.
4. Prepare the basic income statement budgets for a
manufacturing company.
5. Prepare balance sheet budgets for a manufacturing
company.
Learning Objective 1
Describe budgeting,
its objectives, and
its impact on human
behavior.
LO 1
Nature and Objectives of Budgeting

 Budgets play an important role for organizations
of all sizes and forms. For example, budgets are
used in managing the operations of government
agencies, churches, hospitals, small businesses,
and manufacturing companies.
LO 1
Objectives of Budgeting
Estimated Portion of Your Total Monthly
Income That Should Be Budgeted for
Various Living Expenses
Source: Consumer Credit Counseling Service
LO 1
 Budgeting involves:
1. Establishing specific goals.
2. Executing plans to achieve the goals.
3. Periodically comparing actual results with the
goals.
LO 1
 Budgeting affects the following managerial
functions:
 Planning, which involves setting goals to guide
decisions and help motivate employees.
 Directing, which involves decisions and actions to
achieve budgeted goals.
 Controlling, which involves comparing actual
performance against the budgeted goals.
LO 1
 A budgetary unit of a company is called a
responsibility center.
 Each responsibility center is led by a manager
who has the authority and responsibility for
achieving the center’s budgeted goals.
LO 1
LO 1
 As time passes, the actual performance of a
responsibility center can be compared against the
budgeted goals. This provides prompt feedback to
managers and employees about their
performance.
 If necessary, responsibility centers can use such
feedback to adjust their activities in the future.
LO 1
Human Behavior and Budgeting

 Human behavior problems can arise in the
budgeting process in the following situations:
 The budgeted goals are set
too tight and are very hard or
impossible to to achieve.
 This may have a negative effect on
the company
achieving its goals.
LO 1

 The budgeted goals are set too

loose and are very easy to
achieve.
 Budget “padding” is called
budgetary slack.
LO 1

 The budgeted goals conflict

with the objectives of the company
and employees.
 Goal conflict occurs when
employees’ or managers’ self-
interest differs from the
company’s goals.
Describe the basic

elements of the
budget process, the
two major types of
budgeting, and the
use of computers in
budgeting.
LO 2
Budgeting Systems
 The budgetary period for operating activities
normally includes the fiscal year of a company.
 A variation of fiscal-year budgeting, called
continuous budgeting, maintains a 12-month
projection into the future.
LO 2
Budgeting Systems
LO 2
Budgeting Systems
 Zero-based budgeting requires managers to
estimate sales, production, and other operating
data as though operations are being started for
the first time.
LO 2
Static Budget
 A static budget shows the expected results of a
responsibility center for only one activity level.
The budget does not change even if the activity
changes.
 A static budget is used by many service
companies and for some administrative functions
of manufacturing companies.
LO 2
Static Budget Coulter Mfg. Co.
LO 2
Static Budget
 The disadvantage of static budgets is that they do
not adjust for changes in revenues and expenses
that occur as volumes change.
LO 2
Flexible Budget
 Flexible budgets show the expected results of a
responsibility center for several activity levels.
 A flexible budget is, in effect, a series of static
budgets for different levels of activity.
LO 2
Flexible Budget Coulter Mfg. Co.
LO 2
Flexible Budget Coulter Mfg. Co.
If Colter Manufacturing Company’s Assembly Department

spent $70,800 to produce 10,000 units, how much over or
under budget would the department manager be when
using a flexible budget?
The firm
would be
under budget
by $200
($71,000 –
$70,800).
LO 2
Flexible Budget
EE 6-1
Describe the master

budget for a
manufacturing
company.
LO 3
Master Budget
 The master budget is an integrated set of
operating, investing, and financing budgets for a
period of time.
LO 3
Master Budget
 For a manufacturing company, the master budget
consists of the following integrated budgets:
Operating Budgets
Sales budget
Cost of goods sold budget:
Production budget Budgeted Income Statement
Direct materials purchases budget
Direct labor cost budget
Factory overhead cost budget
Selling and administrative expenses budget
Financing Budget
Cash budget
Budgeted Balance Sheet
Investing Budget
Capital expenditures budget
Prepare the basic

income statement
budgets for a
manufacturing
company.
LO 4
Income Statement Budgets
LO 4
Sales Budgets
 The sales budget begins by estimating the
quantity of sales. Once sales quantities are
estimated, the expected sales revenue can be
determined by multiplying the volume by the
expected unit sales price.
LO 4
Sales Budgets
 The prior year’s sales quantities are revised for
such factors as:
 Backlog of unfilled sales orders
 Planned advertising and promotion
 Productive capacity
 Projected pricing changes
 Findings of market research studies
 Expected industry and general economic conditions
LO 4
Sales Budgets ELITE

ELITEACCESSORIES
ACCESSORIES
Elite Accessories Inc. manufactures wallets and

handbags that are sold in two regions, the East
and West regions. Elite Accessories estimates the
following sales quantities and prices for 2012.
LO 4
Sales Budgets ELITE

ELITEACCESSORIES
ACCESSORIES
LO 4
Production Budget
 The production budget estimates the number of
units to be manufactured to meet budgeted sales
and desired inventory levels.
LO 4
Production Budget ELITE

ELITEACCESSORIES
ACCESSORIES
Elite Accessories Inc. expects the following

inventories of wallets and handbags:
LO 4
Production Budget ELITE

ELITEACCESSORIES
ACCESSORIES
LO 4
Production Budget
Sales
Budget Production
Budget
Expected
Expectedunits
unitsto
tobe
besold
sold
++ Desired
Desiredunits
unitsin
inending
endinginventory
inventory
–– Estimated
Estimatedunits
unitsin
inbeginning
beginninginventory
inventory
Total
Totalunits
unitsto
tobe
beproduced
produced
EE 6-2
LO 4
Direct Materials Purchases Budget

 The direct materials purchases budget estimates
the quantities of direct materials to be purchased
to support the budgeted production and desired
inventory levels.
LO 4
Sales
Production Budget
Budget
Direct
DirectMaterials
Materials
Purchases
PurchasesBudget
Budget
Materials
Materialsneeded
neededfor
forproduction
production
++ Desired
Desiredending
endingmaterials
materialsinventory
inventory
–– Estimated
Estimatedbeginning
beginningmaterials
materialsinventory
inventory
Direct
Directmaterials
materialsto
tobe
bepurchased
purchased
LO 4
Note A: 520,000 units x 0.30 sq. yd. per unit = 156,000 sq. yds.
LO 4
Note A: 520,000 units x 0.10 sq. yd. per unit = 52,000 sq. yds.
LO 4
Note B: 292,000 units x 1.25 sq. yd. per unit = 365,000 sq. yds.
LO 4
Note B: 292,000 units x 0.50 sq. yd. per unit = 146,000 sq. yds.
EE 6-3
LO 4
Direct Labor Cost Budget

 The direct labor cost budget estimates the direct
labor hours and related cost needed to support
budgeted production.
LO 4
Direct Labor Cost Budget
Sales
Production Budget
Budget
Direct
DirectMaterials
Materials
Purchases
PurchasesBudget
Budget
Direct
DirectLabor
Labor
Cost
CostBudget
Budget
LO 4
Direct Labor Cost Budget ELITE

ELITEACCESSORIES
ACCESSORIES
Note A: 520,000 units x 0.10 hr. per unit = 52,000 hrs.
LO 4

ELITEACCESSORIES
ACCESSORIES
Note A: 520,000 units x 0.25 hr. per unit = 130,000 hrs.
LO 4

ELITEACCESSORIES
ACCESSORIES
Note B: 292,000 units x 0.15 hr. per unit = 43,800 hrs.
LO 4

ELITEACCESSORIES
ACCESSORIES
Note B: 292,000 units x 0.40 hr. per unit = 116,800 hrs.
EE 6-4
LO 4
Factory Overhead Cost Budget

 The factory overhead cost budget estimates the
cost for each item of factory overhead needed to
support budgeted production.
LO 4
Factory Overhead Cost Budget
Sales Production Budget

Budget
Direct
DirectMaterials
Materials
Purchases
PurchasesBudget
Budget
Direct
DirectLabor
Labor
Cost
CostBudget
Budget
Factory
FactoryOverhead
Overhead
Cost
CostBudget
Budget
LO 4
Factory Overhead Cost Budget ELITE ACCESSORIES

ELITE ACCESSORIES
LO 4
Cost of Goods Sold Budget

 The cost of goods sold budget is prepared by
integrating the following budgets:
 Direct materials purchases budget
 Direct labor cost budget
 Factory overhead cost budget
LO 4
Cost of Goods Sold Budget
Sales
Production
Budget
Budget
Direct
DirectMaterials
Materials
Purchases
PurchasesBudget
Budget
Cost of Direct
DirectLabor
Labor
Goods Cost
CostBudget
Budget
Sold Budget
Factory
FactoryOverhead
Overhead
Cost
CostBudget
Budget
LO 4
Cost of Goods Sold Budget ELITE

ELITEACCESSORIES
ACCESSORIES
EE 6-5
EE6-5
LO 4
Selling and Administrative Expenses Budget
 The selling and administrative expenses budget is

normally supported by departmental schedules.
The sales budget is often used as the starting
point for this budget.
LO 4
Sales
Production
Budget
Budget
Direct
DirectMaterials
Materials
Purchases
PurchasesBudget
Budget
Cost of Goods
Direct
DirectLabor
Labor
Sold Budget Cost
CostBudget
Budget
Selling & Factory

FactoryOverhead
Overhead
Cost
CostBudget
Budget
Administrative
Expenses
Budget
LO 4
ELITE
ELITEACCESSORIES
ACCESSORIES
LO 4
Budgeted Income Statement

 The budgeted income statement is prepared by
integrating the following budgets:
 Sales budget
 Cost of goods sold budget
 Selling and administrative expenses budget
LO 4
Budget Income Statement ELITE

ELITEACCESSORIES
ACCESSORIES
Sales budget
Cost of goods
sold budget
Selling and
administrative
expenses
budget
Prepare balance
sheet budgets for a
manufacturing
company.
LO 5
Cash Budget
 The cash budget estimates the expected receipts
(inflows) and payments (outflows) of cash for a
period of time.
LO 5
Estimated Cash Receipts ELITE

ELITEACCESSORIES
ACCESSORIES
January February March

Receipts from cash sales:
Cash sales (10% x current
month’s sales—Note A)……. $108,000 $124,000 $ 97,000
Part
Part of
of
Exhibit
Exhibit 16
16
Note A: $108,000 = $1,080,000 x 10%

$124,000 = $1,240,000 x 10%
$ 97,000 = $ 970,000 x 10%
LO 5

ELITEACCESSORIES
ACCESSORIES

Receipts from sales on account:
Collections from prior month’s
sales (40% of previous month’s
credit sales—Note B)……….. $370,000 $388,800 $446,400
Note B: $370,000, given as Jan. 1, 2012, Accts. Rec. balance

$388,800 = $1,080,000 x 90% x 40%
$446,400 = $1,240,000 x 90% x 40%
LO 5

ELITEACCESSORIES
ACCESSORIES

Receipts from sales on account:
Collections from prior month’s
sales (40% of previous month’s
credit sales—Note B)……….. $370,000 $388,800 $446,400
Collections from current month’s
sales (60% of current month’s
credit sales—Note C)………… 583,200 669,600 523,800
Note C: $583,200 = $1,080,000 x 90% x 60%

$669,600 = $1,240,000 x 90% x 60%
$523,800 = $ 970,000 x 90% x 60%
LO 5

ELITEACCESSORIES
ACCESSORIES
LO 5
Estimated Cash Payments

 To estimate cash payments for manufacturing costs,
a schedule of payments for manufacturing costs is
prepared.
LO 5
Estimated Cash Payments ELITE

ELITEACCESSORIES
ACCESSORIES

Payments of prior month’s manu-
facturing costs {[25% x previous
month’s manufacturing costs
(less depreciation)]—Note A}….. $190,000 $204,000 $189,000
From
From Exhibit
Exhibit 17
17
Note A: $190,000, given as January 1, 2012, Accounts

Payable balance
$204,000 = ($840,000 – $24,000) x 25%
$189,000 = ($780,000 – $24,000) x 25%
LO 5

ELITEACCESSORIES
ACCESSORIES

Payments of prior month’s manu-
facturing costs {[25% x previous
month’s manufacturing costs
(less depreciation)]—Note A}….. $190,000 $204,000 $189,000
Payments of current month’s
manufacturing costs {[75% x
current month’s manufacturing
costs (less depreciation)]—
Note B}…………….…………… $612,000 $567,000 $591,000
Note B: $612,000 = ($840,000 – $24,000) x 75%

$567,000 = ($780,000 – $24,000) x 75%
$591,000 = ($812,000 – $24,000) x 75%
LO 5

ELITEACCESSORIES
ACCESSORIES
LO 5
Cash Budget ELITE

ELITEACCESSORIES
ACCESSORIES
EE 6-6
LO 5
Capital Expenditures Budget

 The capital expenditures budget summarizes
plans for acquiring fixed assets. Such
expenditures are necessary as machinery and
other fixed assets wear out or become obsolete.
 In addition, purchasing additional fixed assets
may be necessary to meet increasing demand for
the company’s product.
LO 5
Capital Expenditures Budget ELITE

ELITEACCESSORIES
ACCESSORIES
LO 5
Budgeted Balance Sheet

 The budgeted balance sheet is prepared based on
the operating, financing, and investing budgets of
the master budget. It is similar to a normal
balance sheet except that estimated amounts are
used.
Budgeting
The
The End
End
Prepared by: C. Douglas Cloud
Professor Emeritus of Accounting
Pepperdine University

Budgeting: Principles of Managerial Accounting

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Budgeting

Principles of Managerial Accounting

Nature and Objectives of Budgeting

Source: Consumer Credit Counseling Service

Human Behavior and Budgeting

Human Behavior and Budgeting

 The budgeted goals are set too

Human Behavior and Budgeting

 The budgeted goals conflict

Describe the basic

Static Budget Coulter Mfg. Co.

Flexible Budget Coulter Mfg. Co.

Flexible Budget Coulter Mfg. Co.

If Colter Manufacturing Company’s Assembly Department

Describe the master

Capital expenditures budget

Prepare the basic

Income Statement Budgets

Sales Budgets ELITE

Elite Accessories Inc. manufactures wallets and

Sales Budgets ELITE

Production Budget ELITE

Elite Accessories Inc. expects the following

Production Budget ELITE

Direct Materials Purchases Budget

Direct Materials Purchases Budget

Direct Materials Purchases Budget

Direct Materials Purchases Budget

Direct Materials Purchases Budget

Direct Materials Purchases Budget

Direct Labor Cost Budget

Direct Labor Cost Budget

Direct Labor Cost Budget ELITE

Note A: 520,000 units x 0.10 hr. per unit = 52,000 hrs.

Direct Labor Cost Budget ELITE

Note A: 520,000 units x 0.25 hr. per unit = 130,000 hrs.

Direct Labor Cost Budget ELITE

Note B: 292,000 units x 0.15 hr. per unit = 43,800 hrs.

Direct Labor Cost Budget ELITE

Note B: 292,000 units x 0.40 hr. per unit = 116,800 hrs.

Factory Overhead Cost Budget

Factory Overhead Cost Budget

Sales Production Budget

Factory Overhead Cost Budget ELITE ACCESSORIES

Cost of Goods Sold Budget

Cost of Goods Sold Budget

Cost of Goods Sold Budget ELITE

Selling and Administrative Expenses Budget

 The selling and administrative expenses budget is

Selling and Administrative Expenses Budget

Selling & Factory

Selling and Administrative Expenses Budget

Budgeted Income Statement

Budget Income Statement ELITE

Estimated Cash Receipts ELITE

January February March

Note A: $108,000 = $1,080,000 x 10%

Estimated Cash Receipts ELITE

January February March

Note B: $370,000, given as Jan. 1, 2012, Accts. Rec. balance

Estimated Cash Receipts ELITE

January February March

Note C: $583,200 = $1,080,000 x 90% x 60%