Managerial Accounting
Professor Xinlei Li
2023 Spring
Chapter 8
Budgetary Planning
8-1
Learning Objective 8-1
Describe
1. how and why organizations use budgets for
planning and control and
2. potential behavioral issues to consider when
implementing a budget.
8-2
Planning and Control Cycle
8-3
Planning Process
• Strategic Plan
– Long-term Objectives (5 – 10 years)
 Tactics
– Short-term Objectives (< 1 yr.)
 Tactics
8-4
Role of Budgets in the Planning and
Control Cycles
• A budget is a comprehensive financial plan
for achieving the financial and operational
goals of an organization.
• Planning
– Identifies resources and expenditures required.
– Future-oriented.
• Control
– Used to determine whether goals have been
met.
– Review portion of the cycle.
8-5
Benefits of Budgeting
Thinking Ahead
Communication
Motivation
Forcing managers to
look ahead and state
their goals for the
future
Communicating
management’s
expectations and
priorities
Providing motivation
for employees to work
toward organizational
objectives
Providing lead time to
solve potential
problems
Promoting cooperation
and coordination
between functional
areas of the
organization
Providing a benchmark
for evaluating
performance
8-6
Behavioral Effects of Budgets
Budget Problems
Solution
•
Perceived unfair or unrealistic
goals.
• Reasonable and attainable
budgets.
•
Poor management-employee
communications.
• Employee participation in
budgeting process.
•
Building budget slack into
budgets.
•
Different budgets for planning
and for performance evaluation.
•
Continuous, or rolling budgets.
•
automatically add a budget period as one budget
period expires, keeping managers in continuous
planning mode and always looking into the future
•
Zero-based budgeting.
•
the entire budget must be constructed from zero
each period, rather than starting with the last
period’s actual results.
•
•
A “use-it-or-lose-it” mentality.
Managers may feel they need to spend their
entire budgets to avoid a reduction in the next
budget period. This attitude is most prevalent at
the end of periods when managers have unused
resources
8-7
Learning Objective 8-2
Describe the major components of the master
budget and their interrelationships.
8-8
Components of the Master Budget
•
The starting point for preparing the master budget is the sales budget or sales forecast. All
other parts of the master budget are dependent on the sales budget.
•
The primary financial budget that we prepare in this chapter is the cash budget, which
provides information about budgeted cash receipts and payments. We focus primarily on the
cash budget because it provides critical information for managing daily operations.
8-9
Learning Objective 8-3
Prepare the following components of the operating
budget:
a.
b.
c.
d.
e.
f.
g.
h.
Sales budget.
Production budget.
Direct materials purchases budget.
Direct labor budget.
Manufacturing overhead budget.
Cost of goods sold budget.
Selling and administrative expense budget.
Budgeted income statement.
8-10
Preparation of the Operating
Budgets
Let’s take a closer look at the operating
budgets using a hypothetical division of Levi
Strauss & Co. as our example.
8-11
Sales Budget (1 of 2)
• Sales Budget
– Estimated Unit Sales





Last period’s actual
Industry trends
Company’s sales objectives
Planned marketing activities
New products/features
– Estimated Unit Price

Analysis of economic and market conditions +
Forecasts of customer needs from marketing
personnel
8-12
Sales Budget (2 of 2)
We begin the preparation of operating budgets
with the sales budget using information from a
single Levi Strauss & Co. location.
We prepare the sales budget by multiplying the number
of units we expect to sell times the budgeted unit price.
8-13
Production Budget (1 of 3)
The production budget is directly related to the sales
budget and to the quantity of finished goods inventory
the company wants to have on hand at the beginning
and end of each period.
Budgeted Unit Sales + Budgeted Ending Finished Goods
Inventory – Budgeted Beginning Finished Goods
Inventory = Budgeted Production Units
If the company is planning to reduce its finished goods
inventory, they should produce fewer units than they plan to
sell.
8-14
Production Budget (2 of 3)
Prepare a production budget for Levi Strauss & Co.
using the sales budget and the following inventory
policy:
Levi Strauss maintains an ending inventory of
finished goods equal to 5 percent of budgeted sales
in units for the next period. The beginning
inventory for Quarter 1 (for the year) is 1,300
units.
8-15
Production Budget (3 of 3)
Notes:
*Beginning inventory for quarter 1 = 26,000 x 5% = 1,300
**Ending inventory for quarter 4 is given at 1,600 units.
Yearly unit sales and production is the sum of the 4
quarter values.
Ending inventory of 1,600 is from the end of Quarter 4.
Beginning inventory of 1,300 is from the beginning of
Quarter 1.
8-16
Direct Materials Purchases Budget
(1 of 3)
• Next, we must determine what quantity of direct materials
to purchase to use for the production budget.
• Budgeted material purchases will depend on budgeted
production needs and on planned levels of beginning and
ending direct materials inventory.
• The relationship between budgeted direct material
purchases, budgeted production, and direct materials
inventory is summarized in the following formula:
Direct Materials Need for Production + Budgeted Ending Direct
Materials Inventory – Budgeted Beginning Direct Materials
Inventory = Budgeted Direct Materials Purchases
8-17
Direct Materials Purchases Budget
(2 of 3)
Prepare a direct materials purchases budget for Levi Strauss &
Co. using the production budget and the following inventory
policy:
Levi Strauss maintains an ending inventory of materials equal to 3
percent of the next quarter’s production needs, making the beginning
inventory for each quarter equal to 3 percent of the current quarter’s
production needs. The ending inventory for Quarter 4 (for the year)
is assumed to be 3,500 yards. Each pair of 441 jeans requires a
total of 2 yards of denim at a cost of $1.50 per yard.
8-18
Direct Materials Purchases Budget
(3 of 3)
Notes:
*Beginning direct materials inventory for quarter 1 = 52,400 x 3% = 1,572
**Ending direct materials inventory for quarter 4 is given at 3,500, but cannot be determined based on information
given.
8-19
Direct Labor Budget
• Each pair of 441 jeans requires 0.25 hour (15 minutes) of
direct labor (DL) time. The direct labor rate is $14.00 per
hour.
8-20
Manufacturing Overhead Cost
Budget
• For our hypothetical example, variable manufacturing
overhead cost is 40% of direct labor cost and the fixed
manufacturing overhead cost is $66,150 per quarter.
8-21
Budgeted Cost of Goods Sold
(1 of 2)
First, let’s compute the manufacturing cost per unit,
and then we will compute cost of goods sold for
each period.
Budgeted Manufacturing Costs
Direct materials 2 yards per unit × $1.50 per yard
Per Unit
$3.00
Direct labor 0.25 hours per unit × $14 per hour
3.50
Variable manufacturing overhead 40% x $3.50
1.40
Fixed manufacturing overhead $264,600 per year ÷ 132,300 units
produced
2.00
Budgeted manufacturing cost per unit
$9.90
8-22
Budgeted Cost of Goods Sold (2 of
2)
• we can compute cost of goods sold for each period by multiplying
the unit cost $9.90 by the budgeted unit sales for the period.
8-23
Selling and Administrative
Expense Budget
• Variable selling expenses for a period are 10 percent of sales
revenue for that same period.
• Fixed administrative expenses are $200,000 per quarter.
8-24
Budgeted Income Statement
8-25
Learning Objective 8-4
Prepare the cash budget and describe the
relationships among the operating budgets,
cash budget, and budgeted balance sheet.
8-26
Preparation of the Financial Budgets
Now, let’s focus on the financial budgets for Levi Strauss.
The financial budgets focus on the financial resources needed
to support the company’s operations, including cash receipts
and payments, inventory, capital expenditures, and financing.
8-27
Cash Budget (1 of 2)
Our focus is on cash flows that arise from operating activities and are
directly related to the operating budgets for Levi Strauss. The cash
budget consists of three sections:
• Budgeted cash receipts (collections)
• Budgeted cash payments (disbursements)
• Cash borrowed or repaid (financing)
The relationship between budgeted cash collections and budgeted
cash payments from operating activities and cash balances is
summarized in the following formula:
Beginning Cash Balance + Budgeted Cash Receipts – Budgeted Cash
Payment ± Cash Borrowed or Repaid = Ending Cash Balance
8-28
Cash Budget (2 of 2)
• All budgeted cash collections will come from
sales revenue. To calculate the budgeted cash
collections, we will assume that 40% of Levi
Strauss' revenue is from cash sales. The other
60% is from sales on credit, which is collected as
follows:
– 75% of credit sales collected in the quarter of sale.
– 25% of credit sales collected in the quarter
following the sale.
Budgeted Sales Revenue
Quarter 1
Quarter 2
Quarter 3
Quarter 4
$ 1,040,000
$ 1,200,000
$ 1,600,000
$ 1,440,000
8-29
Budgeted Cash Collections
Notes:
Quarter 1: Cash sales = $1,040,000 x 40% = $416,000
Quarter 1: Cash collected from quarter 1 credit sales = $1,040,000 x 60% x 75% = $468,000
Quarter 1: Cash collected from last year’s quarter 4 credit sales assumed to be $125,000
8-30
Budgeted Cash Payments (1 of 2)
We will use the following additional information to develop a
cash payments budget for Levi Strauss:
•
20% of direct materials purchases are paid for during the quarter
purchased.
•
80% are paid for in the following quarter. Cash paid for material
purchases for the fourth quarter of last year was $70,000.
•
Manufacturing overhead includes $50,000 in depreciation expense
(a noncash item).
•
All other operating expenses are paid in cash during the quarter
incurred.
•
Management plans to invest in new sewing equipment during
Quarter 1 at a total cost of $1,200,000. The company will pay 50
percent cash and the balance evenly across Quarters 2, 3, and 4.
8-31
Budgeted Cash Payments (2 of 2)
20%
Notes:
Quarter 1: Cash paid for quarter 1 purchases = $78,987 x 20% = $15,797
Quarter 1: Cash paid from last year’s quarter 4 credit sales assumed to be $70,000
Quarter 2: Cash paid for quarter 1 purchases = $78,987 x 80% = $63,190
8-32
Cash Budget (1 of 2)
We will use the following additional information to
develop the cash budget for Levi Strauss:
• At the beginning of the first quarter, the cash account
balance was $108,000.
• Levi Strauss & Co. has a bank agreement enabling the
company to borrow and repay cash in increments of $1,000
as needed to maintain a minimum cash balance of
$100,000. No interest is charged if the loan is repaid by the
end of the next quarter.
• The balance on the loan at the beginning of Quarter 1 is
zero.
Cash Budget (2 of 2)
Budgeted Balance Sheet
Learning Objective 8-5
Prepare a merchandise purchases budget for a
merchandising firm.
Budgeting in Non-Manufacturing
Firms (1 of 3)
• The primary operating budget for a merchandiser is a
merchandise purchases budget, which is similar in form to
a direct materials purchases budget for a manufacturer.
• Since a merchandising company does not manufacture, it
does not have direct material, direct labor, and
manufacturing overhead budgets.
• Budgeted Sales + Budgeted Ending Merchandise Inventory
– Budgeted Beginning Merchandise Inventory = Budgeted
Merchandise Purchases
Budgeting in Non-Manufacturing
Firms (2 of 3)
Assume that you are a purchasing manager for a
Gap retail store responsible for purchasing denim
jeans and preparing the merchandise purchases
budget.
In your experience, inventory on hand at the
beginning of each quarter should be equal to 20
percent of that quarter’s sales. In other words,
ending inventory should be equal to 20 percent of
next quarter’s sales.
Budgeting in Non-Manufacturing
Firms (3 of 3)
20%
20%
20%
20%