You are on page 1of 36

Introduction to Management Accounting Chapter 7

Introduction to Budgets and Preparing the Master Budget

©2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 - 1

Learning Objective 1

Budgets and the Organization

Budgets

Goals and objectives

A budget provides a comprehensive financial overview of planned company operations.

©2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 - 2

Benefits of Budgets
Compel managers to think ahead

Provide an o ortunity to reevaluate existing activities and evaluate ne ones. Aid managers in communicating objectives and coordinating actions across the organization.

©2008 Prentice Hall Business Publishing, Introduction to Management Accounting 14/e, Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 - 3

4 . 2. Introduction to Management Accounting 14/e. two- ©2008 Prentice Hall Business Publishing. Difficulties in obtaining accurate sales forecasts. Management should seek to create an environment where there is a true two-way flow of information. Incentives to lie and cheat in the budget process. Low levels of participation in the budget process and Lack of acceptance of responsibility for the final budget. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . 3.Learning Objective 2 Human Relations Problems 1.

Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .5 .Potential Problems in Implementing Budgets Participative budgets are formulated with the active participation of all affected employees. Introduction to Management Accounting 14/e. ©2008 Prentice Hall Business Publishing. Message conveyed by the budget system may be misaligned with incentives provided by the compensation system.

Introduction to Management Accounting 14/e. ©2008 Prentice Hall Business Publishing. Budgetary Slack (budget padding) is the overstatement or understatement of budgeted revenue to create a goal that is easier to achieve. Lying can arise if the budget process creates incentives to bias the budget information.Learning Objective 3 Incentives to Lie and Cheat Dysfunctional incentives lead managers to make poor decisions.6 . Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .

Sales forecasts are usually prepared under the direction of the top sales executive.7 .Learning Objective 4 Sales Forecasting A sales forecast is a prediction of sales under a given set of conditions. The sales budget is the result of decisions to create Conditions that will generate a desired level of sales. ©2008 Prentice Hall Business Publishing. Introduction to Management Accounting 14/e. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .

Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .8 . Introduction to Management Accounting 14/e.Factors to Consider When Forecasting Sales ©2008 Prentice Hall Business Publishing.

Learning Objective 5 Types of Budgets Strategic plan LongLong-range planning Master budget Capital budget Continuous budget ©2008 Prentice Hall Business Publishing.9 . Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . Introduction to Management Accounting 14/e.

Introduction to Management Accounting 14/e.Strategic Plan The most forward-looking budget is the forwardstrategic plan. The strategic plan leads to long-range longplanning. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .to ten-year periods. five. which produces forecasted financial statements for five.10 . which sets the overall goals and objectives of the organization.ten- ©2008 Prentice Hall Business Publishing.

which detail the planned expenditures for facilities.LongLong-range Plans LongLong-range plans« are coordinated with capital budgets. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . new products. longMaster budgets link to both long-range longplans and short-term budgets. and other long-term investments. short- ©2008 Prentice Hall Business Publishing. Introduction to Management Accounting 14/e. equipment.11 .

It summarizes the planned activities of all subunits of an organization. Sales Production Distribution Finance ©2008 Prentice Hall Business Publishing. Introduction to Management Accounting 14/e. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .12 .Master Budget The master budget is a detailed and comprehensive analysis of the first year of the longlong-range plan.

. ©2008 Prentice Hall Business Publishing.Continuous Budget Rolling budgets.. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . are a common form of master budgets that add a month in the future as the month just ended is dropped.13 . Introduction to Management Accounting 14/e.

©2008 Prentice Hall Business Publishing. Focuses on the effects that the operating budget and other plans will have on cash balances. Introduction to Management Accounting 14/e. . . Focuses on the Income Statement and supporting schedules or budgeted expenses. . . Financial budget.Master Budget Operating budget (Profit plan).14 . Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .

15 . Operating budget 3. Introduction to Management Accounting 14/e. Financial budget ©2008 Prentice Hall Business Publishing. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . Basic data 2.Learning Objective 6 Steps in Preparing the Master Budget 1.

Introduction to Management Accounting 14/e.16 .Steps in Preparing the Master Budget The principal steps in preparing the master budget: 1. Cash disbursements for purchases e. Basic data a. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . Cash disbursements for operating expenses ©2008 Prentice Hall Business Publishing. Purchases and cost-of-goods sold budget cost-ofd. Sales budget b. Cash collections from customers c. Operating expense budget f.

Prepare forecasted financial statements: b. Prepare budgeted income statement using basic data in step 1. Budgeted Balance sheet ©2008 Prentice Hall Business Publishing. Financial Budget 3.17 . Cash budget d.Steps in Preparing the Master Budget Operating Budget 2. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . Capital budget c. Introduction to Management Accounting 14/e.

Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .18 . Introduction to Management Accounting 14/e.Learning Objective 7 Operating Budget Sales budget Purchases budget O erating ex enses budget Cash collections from customers Disbursements for urchases Disbursements for o erating ex enses ©2008 Prentice Hall Business Publishing.

©2008 Prentice Hall Business Publishing. Cash collections include the current month·s cash sales plus the previous month·s credit sales. Introduction to Management Accounting 14/e.Cash Collections It is easiest to prepare budgeted cash collections at the same time as the sales budget. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .19 .

Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .20 . ©2008 Prentice Hall Business Publishing.Purchases Budget and Cash Disbursements Budgeted purchases = Desired ending inventory + Cost of goods sold ² Beginning inventory Disbursements could include 50% of the current month·s purchases and 50% of the Previous month·s purchases. Introduction to Management Accounting 14/e.

Month-toMonth-to-month changes in sales volume and other cost-driver costactivities directly influence many operating expenses. Introduction to Management Accounting 14/e.21 . ©2008 Prentice Hall Business Publishing.Operating Expense Budget The budgeting of operating expenses depends on several factors. Expenses driven by sales volume include sales commissions and many delivery expenses. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .

Introduction to Management Accounting 14/e.22 . Rent Depreciation Insurance Salaries ©2008 Prentice Hall Business Publishing.Operating Expense Budget Other expenses are not influenced by sales or other cost-driver activity and are regarded costas fixed. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . within appropriate relevant ranges.

©2008 Prentice Hall Business Publishing. Introduction to Management Accounting 14/e.Operating Expense Disbursements Disbursements for operating expenses are based on the operating expense budget. The total of these disbursements is then used in preparing the cash budget.23 . Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . Disbursements may include 50% of last month·s and this month·s wages and commissions plus miscellaneous and rent expenses.

which is computed after the cash budget has been prepared. ©2008 Prentice Hall Business Publishing. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .24 . Budgeted income from operations is often a benchmark for judging management performance.Budgeted Income Statement The income statement will be complete after addition of the interest expense. Introduction to Management Accounting 14/e.

25 .Learning Objective 8 Financial Budget The cash budget is a statement of planned cash receipts and disbursements. Introduction to Management Accounting 14/e. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . The Cash budget contains these major sections:  available cash balance  net cash receipts and disbursements financing ©2008 Prentice Hall Business Publishing.

cash sales. and on other operating income sources.26 . Cash receipts depend on collections from customers· accounts receivable. Introduction to Management Accounting 14/e. ©2008 Prentice Hall Business Publishing. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .Cash Budget Available cash balance = Beginning cash balance ² Minimum cash balance desired.

27 .Cash Budget Cash disbursements for purchases depend on the credit terms extended by suppliers and the bill-paying habits of the buyer. ©2008 Prentice Hall Business Publishing. Introduction to Management Accounting 14/e. and commission terms and on payroll dates. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . salary. bill- Payroll depends on wage.

rents.Cash Budget Disbursements for some costs and expenses depend on contractual terms for installment payments. and the like. Other disbursements include outlays for fixed assets. long-term investments. and miscellaneous items. mortgage payments. ©2008 Prentice Hall Business Publishing. leases.28 . longdividends. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . Introduction to Management Accounting 14/e.

Cash Budget Management determines the minimum cash balance desired depending on the nature of the business and credit arrangements. Introduction to Management Accounting 14/e. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . ©2008 Prentice Hall Business Publishing.29 .

Introduction to Management Accounting 14/e. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . ©2008 Prentice Hall Business Publishing.Cash Budget Financing requirements depend on how the total cash available compares with the total cash needed.30 . Needs include the disbursements plus the desired ending cash balance.

Cash Budget Ending cash balance = Beginning cash balance + Receipts ² Disbursements + Cash from financing The cash from financing can be either positive (borrowing) or negative (repayment). ©2008 Prentice Hall Business Publishing. Introduction to Management Accounting 14/e. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .31 .

Introduction to Management Accounting 14/e.Budgeted Balance Sheet The final step in preparing the master budget is to construct the budgeted balance sheet that projects each balance sheet item in accordance with the business plan. ©2008 Prentice Hall Business Publishing.32 . Management then considers all the major financial statements as a basis for changing the course of events. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .

Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .ActivityActivity-Based Master Budgets Functional budgeting focuses on preparing budgets for various functions such as production. Introduction to Management Accounting 14/e. selling. An activity-based budgetary system activityemphasizes the planning and control purpose of cost management.33 . ©2008 Prentice Hall Business Publishing. and administrative support.

costs.Financial Planning Models Financial planning models are mathematical models that can incorporate the effects of alternative assumptions about sales. ©2008 Prentice Hall Business Publishing. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . or product mix. Financial models are only as good as the assumptions and the inputs used to build and manipulate them. Introduction to Management Accounting 14/e.34 .

Arithmetic errors are virtually nonexistent. ©2008 Prentice Hall Business Publishing.35 . Introduction to Management Accounting 14/e. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 . Spreadsheet software for personal computers is a powerful and flexible tool for budgeting that can be used to prepare mathematical models.Learning Objective 9 Spreadsheets for Budgeting Financial planning models are mathematical models that can incorporate the effects of alternative assumptions about sales. costs. or product mix.

Introduction to Management Accounting 14/e.The End End of Chapter 7 ©2008 Prentice Hall Business Publishing. Horngren/Sundem/Stratton/Schatzberg/Burgstahler 7 .36 .