5.01 STUDY GUIDE
I.
Budget Planning
A. Financial planning is one tool managers use to improve profitability.
B. Planning the financial operations of a business is called budgeting.
C. A written financial plan of a business for a specific period of time (stated in
dollars) is called a budget.
D. Budgets provide managers with information about a specific area of the
business’s operations.
E. Budget preparation begins with identifying company goals. Examples of
company goals might be to:
1. Increase sales.
2. Reduce cost of merchandise sold.
3. Increase net income.
F. Two commonly prepared budgets
1. Budgeted income statement
a. Projection of a business’s sales, costs, expenses and net income
b. Similar to regular income statement
c. Known as the operating budget
2. Cash budget
a. Projection of a business’s cash receipts and payments
b. Used to manage estimated cash shortages and overages
G. Budget functions
1. Planning
2. Operational control
3. Department coordination
H. Budget period
1. Length of time covered by a budget
2. Annual budget is prepared for a company’s fiscal year.
I. Sources of budget information
1. Company records
2. General economic information
3. Company staff and managers
4. Good judgment
J. Comparative income statement
1. Analysis of previous years’ sales, cost, and expense amounts
2. Income statement containing sales, cost, and expense information for two
or more years
3. Highlights items that may be increasing or decreasing at a higher rate than
other items on the statement
K. Interpreting the comparative income statement
1. First column shows actual sales, costs, and expenses for the current year.
2. Second column shows actual amounts for the prior year.
3. Third column shows the amount of increase or decrease from the prior year.
4. Fourth column shows the percentage by which the current year amount
increased or decreased from the prior year amount.
5. The percentage change indicates whether the change is:
a. Favorable to Net Income percentage
(1) Percentage increase in expenses or costs is less than percentage
increase in sales.
(2) Percentage decrease in expenses or costs is more than percentage
decrease in sales.
b. Unfavorable to Net Income percentage
(1) Percentage increase in expenses or costs is greater than
percentage increase in sales.
(2) Percentage decrease in expenses or costs is less than percentage
decrease in sales.
c. Normal – no change to Net Income percentage
(1) Percentage increase in expenses or costs is equal to percentage
increase in sales.
(2) Percentage decrease in expenses or costs is equal to percentage
decrease in sales.
II.
Budgeted Income Statement
A. Businesses set goals, develop operational plans, and project sales, expenses,
and costs.
B. Operational plan provides general guidelines for achieving the company’s
goals.
C. Operational plan is converted into a more precise plan expressed in dollars by
preparing a budgeted income statement.
D. Separate schedules are prepared to assist management in evaluating
operations and goals.
1. Sales budget schedule
2. Purchases budget schedule
3. Selling expenses budget schedule
4. Administrative expenses budget schedule
5. Other revenue and expenses budget schedule
E. Budgeted income statement shows a company’s projected sales, costs,
expenses, and net income.
III.
Cash Budgets and Performance Reports
A. Good cash management requires planning and controlling cash so that it will
be available to meet obligations when they come due.
B. Cash budgets help analyze cash inflows and outflows.
C. Cash receipts budget schedule reports projected cash receipts for a budget
period.
D. Cash payments budget schedule reports projected cash payments for a
budget period.
E. Analysis of actual cash balance is used to determine how actual cash
compares to projected cash.
1. If actual cash is less than projected cash, management must determine the
reason and take action to correct.
2. Decrease could be caused by customers not paying.
3. Decrease could be caused by expenses exceeding budget projections.
4. If decrease continues, business may have to borrow money until receipts
and expenses are brought into balance.
F. Performance Reports
1. Compares actual amounts with the budgeted income statement
2. Shows variations between actual and projected items
3. Management reviews performance reports to identify areas that need to be
reviewed.
4. First column shows amounts projected.
5. Second column shows actual sales, costs, and expenses.
6. Third column shows the difference between actual and projected.
7. Fourth column shows the percentage of the amount increased or
decreased from the projected amount.
8. Management should determine what causes unfavorable results and how
to correct those situations.
9. Management should also determine what causes favorable results and
encourage continuation of those actions.