13
Budgeting for
Planning and
Control
PowerPresentation® prepared by
David J. McConomy, Queen’s University
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-1
Learning Objectives

Define budgeting and discuss its role
in planning, control, and decision
making.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-2
Learning Objectives
(continued)

Define and prepare the master budget,
identify its major components, and
explain the interrelationships of its
various components.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-3
Learning Objectives
(continued)

Describe flexible budgeting and
identify the features that a budgetary
system should have to encourage
managers to engage in goal-congruent
behaviour.

Describe activity-based budgeting.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-4
Definition and Role of
Budgeting
Planning
Strategic Plan
Control
Monitoring of Actual Activity
Long-Term Objectives
Short-Term Objectives
Budgets are quantitative
expressions of plans
Short-Term Plan
Budgets
Feedback
Comparison of Actual with Planned
Investigation
Corrective action
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-5
Purposes of Budgeting

It forces managers to plan.

It provides resource information that
can be used to improve decision
making.

It provides a standard for performance
evaluation.

It improves communication and
coordination.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-6
Two Dimensions of Budgeting
There are two dimensions to
budgeting:
1. How is the budget prepared?
2. How is the budget used to
implement the organization’s
plan?
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-7
Master Budget
A master budget can be divided into operating
and financial budgets.
Operating budgets describe the incomegenerating activities of a firm: sales, production,
and finished goods inventories.
Financial budgets detail the inflows and outflows
of cash and the overall financial position.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-8
The Operating Budget
The operating budget consists of a budgeted
income statement accompanied by the following
support schedules:

Sales budget

Production budget

Direct materials purchases budget

Direct labour budget

Overhead budget

Selling and administrative expenses budget

Ending finished goods inventory budget

Cost of goods sold budget
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-9
Sales Budget
(Schedule 1)
Units
Unit selling price
______________Quarter____________
1
2
3
4
2,000
6,000
6,000
2,000
x $0.70
x $0.70
x $0.80
x $0.80
$1,400
$4,200
$4,800
$1,600
=====
=====
=====
=====
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Year
16,000
x $0.75
$12,000
======
13-10
Production Budget
(Schedule 2)
_____________Quarter____________
1
Sales (Schedule 1)
2,000
Desired ending inventory
500
Total needs
2,500
Less: Beginning inventory (100)
Units to be produced
2,400
====
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
2
6,000
500
6,500
(500)
6,000
====
3
6,000
100
6,100
(500)
5,600
====
4
2,000
100
2,100
(100)
2,000
====
Year
16,000
100
16,100
(100)
16,000
=====
13-11
Direct Materials Purchases Budget
(Schedule 3)
______________Quarter______________
1
Units to be produced (S.2) 2,400
Direct materials per unit
x 13
Production needs
31,200
Desired ending inventory
4,000
Total needs
35,200
Less: Beginning inventory (2,500)
Direct materials to
be purchased
32,700
Cost per kilogram
x$0.02
Total purchase cost
$654
===
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
2
6,000
x 13
78,000
4,000
82,000
(4,000)
3
5,600
x 13
72,800
2,500
75,300
(4,000)
4
2,000
x 13
26,000
2,500
28,500
(2,500)
Year
16,000
x 13
208,000
2,500
210,500
(2,500)
78,000
x $0.02
$1,560
=====
71,300
x $0.02
$1,426
=====
26,000
x $0.02
$520
====
208,000
x $0.02
$4,160
=====
13-12
Direct Labour Budget
(Schedule 4)
________________Quarter____________
1
2
3
4
Units to be produced (Sch. 2)
2,400
6,000
5,600
2,000
Direct labour time
x 0.015
x 0.015
x 0.015
x 0.015
Total hours needed
36
90
84
30
Average wage per hour
x $10
x $10
x $10
x $10
Total direct labour cost
$360
$900
$840
$300
===
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
===
===
===
Year
16,000
x 0.015
240
x $10
$2,400
====
13-13
Overhead Budget
(Schedule 5)
_____________Quarter_____________
1
Budgeted DLH ( Sch. 4)
36
Variable overhead rate
x $8
Budgeted variable overhead $288
Budgeted fixed overhead*
320
Total overhead
$608
====
2
90
x $8
$720
320
$1,040
=====
3
84
x $8
$672
320
$992
====
4
30
x $8
$240
320
$560
====
Year
240
x $8
$1,920
1,280
$3,200
=====
*Includes $200,000 of amortization in each quarter.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-14
Selling and Administrative
Expenses Budget (Schedule 6)
________________Quarter____________
1
2
3
4
Planned sales in units (Sch. 1) 2,000
6,000
6,000
2,000
Variable S & A exp. per unit
x $0.05
x $0.05
x $0.05
x $0.05
Total variable expense
$100
$300
$300
$100
Fixed S & A expenses:
Salaries
$ 35
$ 35
$ 35
$ 35
Advertising
10
10
10
10
Amortization
15
15
15
15
Insurance
4
4
4
4
Travel
5
5
5
5
Total fixed expenses
$ 69
$ 69
$ 69
$ 69
Total S & A expenses
$169
$369
$369
$169
===
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
===
===
===
Year
16,000
x $0.05
$ 800
$ 140
40
60
16
20
$ 276
$1,076
====
13-15
Ending Finished Goods
Inventory Budget (Schedule 7)
Unit-cost computation:
Direct materials (13 kg. @ $0.02)
Direct labour (0.015 hr. @ $10)
Overhead:
Variable (0.015 hr. @ $8)
Fixed (0.015 hr. @ $5.33*)
Total unit cost
$0.26
0.15
0.12
0.08
$0.61
====
*$1,280/240 = $5.33
Finished goods: Concrete block
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Units
100,000
Unit
Costs
$0.61
Total
$61,000
13-16
Cost of Goods Sold Budget
(Schedule 8)
Direct materials used (Schedule 3)*
Direct labour used (Schedule 4)
Overhead (Schedule 5)
Budgeted manufacturing costs
Beginning finished goods
Goods available for sale
Less: Ending finished goods (Schedule 7)
Budgeted cost of goods sold
$4,160
2,400
3,200
$9,760
55
$9,815
(61)
$9,754
=====
*Production needs x $0.01 = 416,000 x $0.01
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-17
Budgeted Income Statement
(Schedule 9)
Sales (Schedule 1)
Less: Cost of goods sold (Schedule 8)
Gross margin
Less: Selling and administrative expenses (Schedule 6)
Operating income
Less: Interest expense (Schedule 10)
Income before taxes
Less: Income taxes (PPT 13-24)
Net income
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
$12,000
(9,754)
$ 2,246
(1,076)
$ 1,171
(54)
$ 1,117
(650)
$ 466
======
13-18
The Financial Budgets
The usual financial budgets prepared are:

The cash budget

The budgeted balance sheet

The capital expenditures budget
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-19
The Cash Budget
Beginning cash balance
Add: Cash receipts
Cash available
$x,xxx
x,xxx
$x,xxx
Less: Cash disbursements
x,xxx
Less: Minimum cash balance
x,xxx
Cash surplus (deficiency)
$x,xxx
Add: Cash from loans
x,xxx
Less: Loan repayments
x,xxx
Add: Minimum cash balance
x,xxx
End cash balance
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
$x,xxx
=====
13-20
Cash Budget Example
a. A $100,000 minimum cash balance is required for
the end of each quarter.
b. Money can be borrowed and repaid in multiples of
$100,000. Interest is 12 % per year. Interest
payments are made only for the amount of the
principal being repaid. All borrowing takes place
at the beginning of a quarter and all repayment
takes place at the end of a quarter.
 Half of all sales are for cash, 70% of credit sales
are collected in the quarter of sale, and the
remaining 30% are collected in the following
quarter. The sales for the fourth quarter of 2000
were $2 million.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-21
Cash Budget Example
(continued)

Purchases of raw materials are made on
account; 80% of purchases are paid for in
the quarter of purchase. The remaining 20%
are paid for in the following quarter. The
purchases for the fourth quarter of 2000
were $500,000.

Budgeted amortization is $200,000 per
quarter for overhead and $15,000 per quarter
for selling and administrative expenses (see
Schedules 5 and 6). Insurance premiums of
$16,000 are paid in the third quarter.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-22
Cash Budget Example
(continued)

The capital budget for 2001 reveals a plan to
purchase additional equipment to handle
increased demand at a plant in Kitimat, BC.
The cash outlay for the equipment, $600,000,
will take place in the first quarter. The
company plans to finance the acquisition of the
equipment with operating cash, supplementing
it with short-term loans if necessary.

Corporate income taxes are approximately
$650,000 and will be paid at the end of the
fourth quarter (Schedule 9).

Beginning cash balance equals $120,000.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-23
Cash Receipts from Customers
Source
Cash sales
Quarter1
Quarter 2
Quarter 3
Quarter 4
$ 700,000 $2,100,000
$2,400,000
$ 800,000
Received on
account from:
Quarter 4, 2000
300,000
Quarter 1, 2001
490,000
Quarter 2, 2001
210,000
1,470,000
Quarter 3, 2001
630,000
1,680,000
Quarter 4, 2001
Total cash receipts
720,000
560,000
$1,490,000 $3,780,000
======== ========
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
$4,710,000
========
$2,080,000
========
13-24
Cash Disbursements
____________
1
Less cash disbursements:
Raw materials:
Current quarter
Prior quarter
Direct labour
Overhead
Selling and adm.
Income taxes
Equipment
Total disbursements
$523
100
360
408
150
--600
$2,141
=====
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
_____Quarter__________________
2
3
4
$1,248
131
900
840
350
----$3,469
=====
$1,141
312
840
792
366
----$3,451
=====
$416
285
300
360
150
650
--$2,161
=====
13-25
Cash Budget
(Schedule 10)
Beginning cash balance
Cash collections (13-24)
Total cash available
_________ ______Quarter_______________
1
2
3
4
Year
$ 120
$ 169
$ 162
$ 985
$ 120
1,490
3,780
4,710
2,080
12,060
$1,610
$3,949
$4,872
$3,065
$12,180
Total disbursements (13-25)
Minimum cash balance
Total cash needs
$2,141
100
$2,241
$3,469
100
$3,569
$3,451
100
$3,551
$2,161
100
$2,261
$11,222
100
$11,322
Excess (deficiency) of cash
Add: Borrowings
Less: Repayments
Less: Interest paid
Ending cash balance
$ (631)
700
----$ 169
======
$ 380
--(300)
(18)
$ 162
======
$1,321
--(400)
( 36)
$ 985
======
$ 804
------$ 904
=====
$
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
858
700
(700)
(54)
$ 904
======
13-26
Total Assets, Last Year
Assets
Current assets:
Cash
Accounts receivable
Raw materials inventory
Finished goods inventory
Total current assets
Property, plant, and equipment:
Land
Building and equipment
Less: Accumulated amortization
Total property, plant, and equipment
Total assets
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
$ 120
300
50
55
$ 525
$ 2,500
9,000
(4,500)
7,000
$7,525
=====
13-27
Total Liabilities and
Stockholders’ Equity, Last Year
Liabilities and Stockholders’ Equity
Current liabilities:
Accounts payable
Stockholders’ equity:
Common stock, no par
Retained earnings
Total stockholders’ equity
Total liabilities and stockholders’ equity
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
$ 100
$ 600
6,825
7,425
$7,525
======
13-28
Budgeted Total Assets
Assets
Current assets:
Cash
Accounts receivable
Raw materials inventory
Finished goods inventory
Total current assets
Property, plant, and equipment:
Land
Building and equipment
Less: Accumulated amortization
Total property, plant, and equipment
Total assets
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
$
904
240
50
61
$1,255
$
$ 9,600
2,500
(5,360)
6,740
$7,995
======
13-29
Budgeted Total Liabilities and
Stockholders’ Equity
Liabilities and Stockholders’ Equity
Current liabilities:
Accounts payable
Stockholders’ equity:
Common stock, no par
Retained earnings
Total stockholders’ equity
Total liabilities and stockholders’ equity
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
$ 104
$ 600
7,291
7,891
$7,995
=====
13-30
Flexible and Static Budgeting

Static Budgeting is a budget for a
particular level of activity.

Flexible Budgeting is a budget that
provides a company with the
capability to compute expected costs
(and revenues) for a range of
activities.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-31
The Uses of Flexible Budget

The flexible budget can be used to prepare
the budget before the fact for the expected
level of activity.

Flexible budgeting can be used to compute
what costs should have been for the actual
level of activity.

Flexible budgeting can help managers deal
with uncertainty by allowing them to see the
expected outcomes for a range of activity.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-32
Performance Report
(Exhibit 13-6)
Units produced
Direct materials cost
Direct labour costs
Overhead:
Variable:
Supplies
Indirect labour
Power
Fixed:
Supervision
Amortization
Rent
Total
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Actual
3,000
====
$ 927.3
450.0
Budgeted
2,400
====
$ 624.0
360.0
Variance
600 F
====
$303.3 U
90.0 U
80.0
220.0
40.0
72.0
168.0
48.0
8.0 U
52.0 U
(8.0) F
90.0
200.0
30.0
$2,037.3
======
100.0
200.0
20.0
$1,592.0
======
(10.0) F
0.0
10.0 U
$445.3 U
======
13-33
Flexible Production Budget
(Exhibit 13-7)
Production Costs
Variable:
Direct materials
Direct labour
Variable overhead:
Supplies
Indirect labour
Power
Total variable costs
Fixed overhead:
Supervision
Amortization
Rent
Total fixed costs
Total production costs
Variable
Cost
per Unit
Range of Production
2,400
3,000
3,600
$0.26
0.15
$ 624
360
$ 780
450
$ 936
540
0.03
0.07
0.02
$0.53
72
168
48
$1,272
90
210
60
$1,590
108
252
72
$1,908
$ 100
200
20
$ 320
$1,592
=====
$ 100
200
20
$ 320
$1,910
=====
$ 100
200
20
$ 320
$2,228
=====
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-34
Actual vs. Flexible Performance
Report (Exhibit 13-8)
Units produced
Production costs:
Direct materials
Direct labour
Variable overhead:
Supplies
Indirect labour
Power
Total variable costs
Fixed overhead:
Supervision
Amortization
Rent
Total fixed costs
Total production costs
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Actual
3,000
====
Budget
3,000
====
Variance
----====
$ 927.3
450.0
$ 780.0
450.0
$ 147.3 U
0.0
80.0
220.0
40.0
$1,717.3
90.0
210.0
60.0
$1,590.0
(10.0)
10.0
(20.0)
$ 127.3
$90.0
200.0
30.0
$ 320.0
$2,037.3
=======
$100.0
200.0
20.0
$ 320.0
$1,910.0
=======
$(10.0) F
0.0
10.0 U
$0.0
$ 127.3 U
======
F
U
F
U
13-35
Behavioural Dimensions of
Budgeting








Goal Congruence
Dysfunctional Behaviour
Frequent Feedback on Performance
Monetary and Nonmonetary Incentives
Participative Budgeting
Realistic Standards
Controllability of Costs
Multiple Measures of Performance
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-36
Activity-Based Budgeting
Activity flexible
budgeting is the
prediction of what
activity costs will
be as activity
output changes.
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-37
Flexible Budget:
Direct Labour Hours
Cost Formula
Fixed Variable
Direct materials
--$10
Direct labour
--8
Maintenance $ 20,000
3
Machining
15,000
1
Inspections
120,000
--Setups
50,000
--Purchasing
220,000
--Total
$425,000
$22
=======
===
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Direct Labour Hours
10,000 20,000
$100,000 $200,000
80,000 160,000
50,000
80,000
25,000
35,000
120,000 120,000
50,000
50,000
220,000 220,000
$645,000 $865,000
======= =======
13-38
Activity Flexible Budget
Driver: Direct Labour Hours
Formula
Fixed Variable
Direct materials
--$10
Direct labour
--8
Subtotal
$0
$18
==
===
Driver: Machine Hours
Fixed
Maintenance
$20,000
Machining
15,000
Subtotal
$35,000
======
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Variable
$5.50
2.00
$7.50
====
Level of Activity
10,000
20,000
$100,000
$200,000
80,000
160,000
$180,000
$360,000
8,000
$64,000
31,000
$95,000
16,000
$108,000
47,000
$155,000
13-39
Activity Flexible Budget
(continued)
Driver: Number of Setups
Fixed Variable
Inspections
$80,000
$2,100
Setups
--1,800
Subtotal
$80,000
$3,900
======
=====
Driver: Number of Orders
Fixed Variable
Purchasing
$211,000
$1
=======
==
Total
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
25
$132,500
45,000
$177,500
30
$143,000
54,000
$197,000
15,000
$226,000
25,000
$236,000
$678,000
=======
$948,000
=======
13-40
Activity-Based Performance
Report
Actual Costs
Direct materials $101,000
Direct labour
80,000
Maintenance
55,000
Machining
29,000
Inspections
125,500
Setups
46,500
Purchasing
220,000
Total
$657,000
=======
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Budgeted Costs
$100,000
80,000
64,000
31,000
132,500
45,000
226,000
$678,500
=======
Budget Variance
$1,000 U
--9,000 F
2,000 F
7,000 F
1,500 U
6,000 F
$21,500 F
======
13-41
Variances for the Inspection
Activity
Activity
Inspection:
Actual Cost
Fixed
$ 82,000
Variable
43,500
Total $125,500
=======
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
Budgeted Cost
$ 80,000
52,500
$132,500
=======
Variance
$2,000 U
9,000 F
$7,000 F
=====
13-42
Static and Flexible Budgets

Static budgets gauge effectiveness

Flexible budgets gauge efficiency

Static and flexible budgets together gauge
both effectiveness and efficiency
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-43
Profit Budgets and Variances
Assume the following budget and actual information
Sales
Variable Costs
Contribution
Margin
Fixed Costs
Operating Income
Master Budget
(1,000 units)
$ 100,000
40,000
60,000
Actual
(800 units)
$ 82,000
39,000
43,000
Variances
$ 18,000 U
1,000 F
17,000 U
30,000
30,000
34,000
9,000
4,000 U
21,000 U
Evaluate the above performance report!
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-44
Static and Flexible Profit
Budgets
The previous performance report misleads:
– uses a static budget to gauge variable cost
performance,
– does not attempt to identify variances by causal
factors, and
– mixes the effects of effectiveness and efficiency
It can be improved by:
– comparing actual to flexible budget to
determine the effects of cost performance and
selling prices on profit, and
– comparing static and flexible budgets to
identify the effects of volume on profit
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-45
Profit Variances
Sales
Master Budget Flexible Budget
(1,000 units)
(800 units)
$ 100,000
$ 80,000
Actual
(800 units)
$ 82,000
Variable Costs
40,000
32,000
39,000
Contribution Margin
60,000
48,000
43,000
Fixed Costs
30,000
30,000
34,000
Operating Income
30,000
18,000
9,000
Comparing the flexible to the static (master) budget isolates the
effects of volume on profits, and comparing actual to flexible budget
isolates the appropriate cost variances as well as the sales price
variance, as follows:
Profit volume variance = 18,000 – 30,000
Sales price variance = 82,000 – 80,000
Variable cost variances = 32,000 – 39,000
Fixed cost variances = 30,000 – 34,000
=$
=
=
=
- 12,000 (U)
2,000 (F)
- 7,000 (U)
- 4,000 (U)
Total variances
=$
- 21,000 (U)
===========
Copyright © 2004 by Nelson, a division of Thomson Canada Limited.
13-46