3-1
Learning Objective 1
Understand why organizations budget
and the processes they use to create
budgets.
Master Budgeting
CHAPTER 8
Managerial Accounting
Seventeenth edition
© 2021 McGraw Hill. All rights reserved. Authorized only for instructor use in the classroom. No reproduction or further distribution
permitted without the prior written consent of McGraw Hill.
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Basic Framework of Budgeting
Choosing the Budget Period
A budget is a detailed quantitative plan for
acquiring and using financial and other resources
over a specified forthcoming time period.
1. A company’s budget ordinarily covers a one-year
period corresponding to its fiscal year.
Operating budgets ordinarily
cover a one-year period
corresponding to a company’s
fiscal year. Many companies
divide their annual budget into
four quarters.
2. Some companies also use a perpetual budget,
which is a 12-month budget that continuously
rolls forward.
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A continuous budget is a 12month budget that rolls forward
one month (or quarter) as the
current month (or quarter) is
completed.
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Why Do Organizations Create Budgets?
(Planning Perspective)
Budgets Are Used for Two Key Purposes
Planning involves
developing objectives
and preparing various
budgets to achieve
those objectives.
Control involves the steps
taken by management to
increase the likelihood that
the objectives set down while
planning are attained and that
all parts of the organization
are working together toward
that goal.
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Why Do Organizations Create Budgets?
(Control Perspective)
How Do Organizations Create Budgets?
From a control standpoint, organizations
compare their budgets to actual results to:
Improve the
efficiency and
effectiveness of
operations.
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Companies usually create budgets by relying on
some combination of top-down budgeting and
self-imposed budgeting. A self-imposed budget
or participative budget is a budget that is
prepared with the full cooperation and
participation of managers at all levels.
Evaluate and
reward employees.
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Advantages of Self-Imposed Budget
Self-Imposed Budgets
1. It shows respect for the opinions of lower-level managers
when they are involved in the budgeting process.
2. Budget estimates prepared by front-line managers are
often more accurate than estimates prepared by top
managers.
3. Motivation is generally higher when individuals
participate in setting their own goals than when the
goals are imposed from above.
4. It empowers them to take ownership of the budget and
to be accountable for deviations from it.
When managers throughout the organization work collaboratively to prepare a
budget, they often strive to establish challenging targets that are also highly
achievable. These goals are likely to build a lower-level manager’s confidence
and commitment to the budget.
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Self-Imposed Budgets – Management
Review
Master Budget – An Overview
1
Self-imposed budgets should be reviewed by
higher levels of management to prevent
“budgetary slack.”
Most companies issue broad guidelines in
terms of overall profits or sales. Lower-level
managers are directed to prepare budgets
that meet those targets.
Access the text alternative for slide images.
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Seeing the Big Picture
Seeing the Big Picture
1
2
1. How much sales revenue will we earn?
To help you see the “big picture,” keep
in mind that the 10 schedules in the
master budget are designed to answer
the 10 questions shown on the next
screen.
2. How much cash will we collect from customers?
3. How much raw material will we need to purchase?
4. How much manufacturing costs will we incur?
5. How much cash will we pay to our suppliers and our direct laborers, and how
much cash will we pay for manufacturing overhead resources?
6. What is the total cost that will be transferred from finished goods inventory to
cost of goods sold?
7. How much selling and administrative expense will we incur, and how much cash
will we pay related to those expenses?
8. How much money will we borrow from or repay to lenders—including interest?
9. How much operating income will we earn?
10. What will our balance sheet look like at the end of the budget period?
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Master Budget – An Overview
Master Budget – An Overview
2
A master budget is based on various estimates and
assumptions. For example, the sales budget
requires three estimates/assumptions as follows:
3
When Microsoft Excel© is used to create a master budget,
these types of assumptions can be depicted in a Budget
Assumptions tab, thereby enabling Excel-based budgets to
answer “what-if” questions.
1. What are the budgeted unit sales?
2. What is the budgeted selling price per unit?
3. What percentage of accounts receivable will be
collected in the current and subsequent
periods?
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Learning Objective 2
Budgeting Example
Prepare a sales budget, including a
schedule of expected cash collections.
1. Royal Company is preparing budgets for the
quarter ending June 30.
2. Budgeted sales for the next five months are:
April
May
June
July
August
20,000 units
50,000 units
30,000 units
25,000 units
15,000 units
3. The selling price is $10 per unit.
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Sales Budget
Expected Cash Collections
The individual months of April, May, and June are
summed to obtain the total budgeted sales in units
and dollars for the quarter ended June 30.
All sales are on account.
April
Budgeted sales in units
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May
20,000
Selling price per unit
$
10
Total budgeted sales
$
200,000
June
50,000
$
10
$ 500,000
$
Royal’s collection pattern is:
70% collected in the month of sale.
Quarter
30,000
10
$ 300,000
30% collected in the month following sale.
100,000
$
1
10
In April, the March 31 accounts receivable balance
of $30,000 will be collected in full in April.
$ 1,000,000
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Expected Cash Collections
April
Accounts receivable 3/31
Expected Cash Collections
2
May
June
$ 30,000
April
Quarter
Accounts receivable 3/31
$ 30,000
3
May
June
$ 30,000
Quarter
$ 30,000
April sales:
70% × $200,000
30% × $200,000
140,000
140,000
60,000
60,000
From the sales budget for April
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Expected Cash Collections
April
Accounts receivable 3/31
May
Quick Check 1
4
June
What will be the total cash collections for
the quarter?
Quarter
$ 30,000
$ 30,000
140,000
140,000
April sales:
70% × $200,000
30% × $200,000
60,000
a. $700,000.
60,000
b. $220,000.
350,000
c. $190,000.
May sales:
70% × $500,000
30% × $500,000
350,000
150,000
150,000
d. $940,000.
From the sales budget for May
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Quick Check 1a
Expected Cash Collections
What will be the total cash collections for
the quarter?
April
Accounts receivable 3/31
5
May
June
$ 30,000
Quarter
$ 30,000
April sales:
a. $700,000.
70% × $200,000
140,000
30% × $200,000
b. $220,000.
140,000
60,000
60,000
May sales:
70% × $500,000
c. $190,000.
350,000
30% × $500,000
350,000
150,000
150,000
June sales:
d. Answer: $940,000.
70% × $300,000
$ 170,000 $ 410,000
210,000
210,000
$ 360,000
$ 940,000
Accounts Receivable 6/30 = 30%×$300,000 = $90,000
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Learning Objective 3
Production Budget
Prepare a production budget.
1
Sales Budget and Expected Cash Collections
(Completed).
• Production Budget.
The production budget must be adequate to meet
budgeted sales and to provide for the desired
ending inventory.
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Production Budget
Production Budget
2
The management at Royal Company wants
ending inventory to be equal to 20% of the
following month’s budgeted sales in units.
3
April
Budgeted sales
20,000
May
50,000
June
30,000
Quarter
100,000
Add: Desired ending inventory
Total needs
Less: Beginning inventory
On March 31, 4,000 units were on hand.
Required production
Let’s prepare the production budget.
If Royal was a merchandising company, it would prepare a
merchandise purchase budget instead of a production budget.
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Production Budget
Budgeted sales
20,000
Add: Desired ending inventory
10,000
Total needs
30,000
Less: Beginning inventory
Required production
March 31 ending
inventory
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4
April
31
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May
50,000
June
30,000
What is the required production for May?
Quarter
a. 56,000 units.
100,000
b. 46,000 units.
4,000
c. 62,000 units.
26,000
Budgeted May sales
Desired ending inventory %
Desired ending inventory
d. 52,000 units.
50,000
20%
10,000
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Quick Check 2a
Production Budget
What is the required production for May?
5
April
a. 56,000 units.
b. Answer: 46,000 units.
c. 62,000 units.
20,000
50,000
Add: Desired ending inventory
10,000
6,000
Total needs
30,000
56,000
4,000
10,000
26,000
46,000
Less: Beginning inventory
Required production
d. 52,000 units.
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May
Budgeted sales
June
30,000
Quarter
100,000
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Production Budget
Learning Objective 4
6
April
May
June
Budgeted sales
20,000
50,000
30,000
Add: Desired ending inventory
10,000
6,000
5,000
5,000
Total needs
30,000
56,000
35,000
105,000
4,000
10,000
6,000
4,000
26,000
46,000
29,000
101,000
Less: Beginning inventory
Required production
Prepare a direct materials budget,
including a schedule of expected cash
disbursements for purchases of materials.
Quarter
100,000
July sales of 25,000 units×20% = 5,000
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Direct Materials Budget
Direct Materials Budget
1
At Royal Company, five pounds of material are
required per unit of product.
April
Production
2
May
26,000
June
46,000
Quarter
29,000
101,000
Materials per unit (pounds)
Management wants materials on hand at the end
of each month equal to 10% of the following
month’s production.
Production needs
Add: Desired ending inventory
Total needed
Less: Beginning inventory
Materials to be purchased
On March 31, there are 13,000 pounds of
material on hand. Material cost is $0.40 per
pound.
From production budget
Let’s prepare the direct materials budget.
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Direct Materials Budget
April
Production
Materials per unit (pounds)
Production needs
Direct Materials Budget
3
May
June
Quarter
April
26,000
46,000
29,000
101,000
5
5
5
5
130,000
230,000
145,000
505,000
Production
Materials per unit (pounds)
Production needs
4
May
June
Quarter
26,000
46,000
29,000
5
5
5
5
130,000
230,000
145,000
505,000
Add: Desired ending inventory
Add: Desired ending inventory
Total needed
Total needed
Less: Beginning inventory
Less: Beginning inventory
13,000
Materials to be purchased
Materials to be purchased
140,000
101,000
23,000
153,000
March 31 inventory.
10% of following month’s production needs.
Now, why don’t you calculate the materials to be purchased in May.
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Quick Check 3
Quick Check 3a
How much materials should be purchased in
May?
How much materials should be purchased in
May?
a. 221,500 pounds.
a. Answer: 221,500 pounds.
b. 240,000 pounds.
b. 240,000 pounds.
c. 230,000 pounds.
c. 230,000 pounds.
d. 211,500 pounds.
d. 211,500 pounds.
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Direct Materials Budget
April
Production
Materials per unit (pounds)
Production needs
Add: Desired ending inventory
Total needed
Direct Materials Budget
5
May
June
46,000
29,000
101,000
5
5
5
5
130,000
230,000
145,000
505,000
23,000
14,500
153,000
244,500
April
Quarter
26,000
Production
Materials per unit (pounds)
Production needs
Add: Desired ending inventory
Total needed
6
May
June
Quarter
26,000
46,000
29,000
5
5
5
101,000
5
130,000
230,000
145,000
505,000
23,000
14,500
11,500
11,500
153,000
244,500
156,500
516,000
Less: Beginning inventory
13,000
23,000
Less: Beginning inventory
13,000
23,000
14,500
13,000
Materials to be purchased
140,000
221,500
Materials to be purchased
140,000
221,500
142,000
503,500
Beginning inventory from April
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Expected Cash Disbursement for
Materials
Expected Cash Disbursement for
Materials
1
2
Royal pays $0.40 per pound for its materials.
April
One-half of a month’s purchases is paid for in
the month of purchase; the other half is paid in
the following month.
Accounts payable 3/31
$ 12,000
May
June
Quarter
$ 12,000
The March 31 accounts payable balance is
$12,000.
Let’s calculate expected cash disbursements.
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Expected Cash Disbursement for
Materials
Quick Check 4
3
April
Accounts payable 3/31
June
July
What are the total cash disbursements for the
quarter?
Quarter
$ 12,000
$ 12,000
28,000
28,000
April purchases:
50% × $56,000
50% × $56,000
140,000 lbs. × $0.40/lb. = $56,000
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28,000
a. $185,000.
b. $68,000.
28,000
c. $56,000.
Compute the expected cash
disbursements for materials
for the quarter.
d. $201,400.
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Expected Cash Disbursement for
Materials
Quick Check 4a
4
What are the total cash disbursements for the
quarter?
April
Accounts payable 3/31
May
June
$ 12,000
Quarter
$ 12,000
April purchases:
a. Answer: $185,000.
50% × $56,000
28,000
28,000
50% × $56,000
b. $68,000.
28,000
28,000
May purchases:
c. $56,000.
50% × $88,600
44,300
44,300
50% × $88,600
d. $201,400.
44,300
44,300
June purchases:
50% × $56,800
Total cash disbursements
$ 40,000
$
72,300
$
28,400
28,400
72,700
$ 185,000
Accounts payable at June 30 = $56,800×50% = $28,400
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Learning Objective 5
Direct Labor Budget
1
At Royal, each unit of product requires 0.05
hour (3 minutes) of direct labor. The labor
can be unskilled because the production
process is relatively simple and formal
training is not required.
Prepare a direct labor budget.
Royal pays its workers at the rate of $10 per
hour.
Let’s prepare the direct labor budget.
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Direct Labor Budget
April
Units of production
Direct Labor Budget
2
May
26,000
June
46,000
April
Quarter
29,000
3
Units of production
101,000
Direct labor time per unit
Direct labor time per unit
Labor-hours required
Labor-hours required
Hourly wage rate
Hourly wage rate
Total direct labor costs
Total direct labor costs
May
June
Quarter
26,000
46,000
29,000
0.05
0.05
0.05
101,000
0.05
1,300
2,300
1,450
5,050
From production budget
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Direct Labor Budget
April
Units of production
Direct labor time per unit
Labor-hours required
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Learning Objective 6
4
May
June
26,000
46,000
29,000
0.05
0.05
0.05
0.05
1,300
2,300
1,450
5,050
Hourly wage rate
$
Total direct labor costs
$ 13,000
10
$
10
$ 23,000
$
Prepare a manufacturing
overhead budget.
Quarter
10
$ 14,500
101,000
$
10
$ 50,500
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Manufacturing Overhead Budget
Manufacturing Overhead Budget
1
At Royal, manufacturing overhead is applied to units
of product on the basis of direct labor-hours.
April
Budgeted direct labor-hours
The variable manufacturing overhead rate is $20 per
direct labor-hour.
May
1,300
2
June
2,300
Quarter
1,450
5,050
Variable mfg. OH rate
Variable mfg. OH costs
Fixed mfg. OH costs
Fixed manufacturing overhead is $50,000 per month,
which includes $20,000 of noncash costs (primarily
depreciation of plant assets).
Total mfg. OH costs
Less: Noncash costs
Cash disbursement for mfg. OH
Direct labor budget
Let’s prepare the manufacturing overhead budget.
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Manufacturing Overhead Budget
April
Budgeted direct labor-hours
May
1,300
Variable mfg. OH rate
$
20
Variable mfg. OH costs
$
26,000
June
2,300
$
Manufacturing Overhead Budget
3
Quarter
1,450
April
5,050
20
$
20
$
$ 46,000
$
29,000
$ 101,000
Budgeted direct labor-hours
20
May
1,300
Variable mfg. OH rate
$
20
Variable mfg. OH costs
$
26,000
June
2,300
$
4
Quarter
1,450
5,050
20
$
20
$
$ 46,000
$
29,000
$ 101,000
20
Fixed mfg. OH costs
50,000
50,000
50,000
150,000
Fixed mfg. OH costs
50,000
50,000
50,000
150,000
Total mfg. OH costs
76,000
96,000
79,000
251,000
Total mfg. OH costs
76,000
96,000
79,000
251,000
Less: Noncash costs
20,000
20,000
20,000
60,000
Less: Noncash costs
20,000
20,000
20,000
60,000
56,000
$ 76,000
59,000
$ 191,000
56,000
$ 76,000
$ 59,000
$ 191,000
Cash disbursement for mfg. OH
$
$
Cash disbursement for mfg. OH
Total mfg. OH for quarter $251, 000
 $49.70 per hour *
Total labor hours required 5, 050
$
Depreciation is a noncash charge.
* rounded
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Ending Finished Goods Inventory Budget
Production costs per unit
Direct materials
Quantity
5.00 Ibs.
Cost
$
Ending Finished Goods Inventory Budget
1
Total
0.40
$
Production costs per unit
2.00
Direct materials
Direct labor
Quantity
5.00 Ibs.
0.05 hr.
Cost
$
2
Total
0.40
$
$ 10.00
2.00
0.50
Direct labor budget
Direct materials budget
and information
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Ending Finished Goods Inventory Budget
Production costs per unit
Direct materials
Quantity
5.00 Ibs.
Cost
$
Total
0.40 $
Direct labor
0.05 hr.
$ 10.00
Manufacturing overhead
0.05 hr.
$ 49.70
Ending Finished Goods Inventory Budget
3
$
Production costs per unit
0.50
Direct labor
0.05 hr.
$ 10.00
2.49
Manufacturing overhead
0.05 hr.
$ 49.70
4.99
$
Total
0.40 $
2.00
0.50
2.49
$
4.99
Budgeted finished goods inventory
Ending inventory in units
Ending finished goods inventory
5.00 Ibs.
Cost
Direct materials
Budgeted finished goods inventory
Unit product cost
Quantity
2.00
4
Ending inventory in units
$
4.99
?
5,000
Unit product cost
$
4,99
Ending finished goods inventory
$
24,950
Total mfg. OH for quarter $251, 000
 $49.70 per hour
Total labor hours required 5, 050
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