5.01 Budget Planning & Control
Budget Planning
Financial planning is one tool managers use to
improve profitability.
Planning the financial operations of the business is
called budgeting.
A written financial plan expressed in dollars is called a
budget.
Budget Planning (continued)
A budget is a view into the future – a financial estimate
of future business activities.
Identifying company goals is the first step in budget
preparation. Company goals might be:


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to increase sales
reduce cost of merchandise sold
increase net income
Budget Planning (continued)
Two budgets commonly prepared in businesses are:

Budgeted income statement – projection of a business’s
sales, costs, expenses and net income for a fiscal period.
Often called an operating budget.

Cash budget – projection of a business’s cash receipts and
payments for a fiscal period. Used to manage estimated cash
shortages and overages.
Budget Functions
A budget serves three important functions:

Planning – managers make projections, plan actions to
meet goals

Operational control – management compares actual
amounts to budgeted amounts to determine how well a
business is performing

Department coordination – all management personnel
must help plan and use budget as a guide to manage
sales, costs, and expenses
Budget Period
 The length of time covered by a budget is usually
one year.
 Annual budget is used to compare current financial
performance with budget plans.
 Annual budget is normally prepared for a company’s
fiscal year.
Sources of Budget Information
 Budgets are not exact since they show only
projected sales, costs, and expenses.
 Companies use many sources to prepare budgets.
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Company records – accounting and sales records from
prior periods are used to determine trends
General economic information – changes in the national
economy affect budget decisions
Company staff and managers – department managers
project budget items for their areas of responsibility of
the business
Good judgment – final budget decisions must be based
on good judgment
Comparative Income Statement

Provides an analysis of previous years’ sales, cost,
and expense amounts

Income statement containing sales, cost, and expense
information for two or more years

Highlights items that may be increasing or decreasing
at a higher rate than other items on the statement
Interpreting the Comparative Income Statement

First column shows actual sales, costs, and
expenses for the current year

Second column shows actual amounts for the prior
year

Third column shows the amount of increase or
decrease from the prior year

Fourth column shows the percentage by which the
current year amount increased or decreased from the
prior year amount
Interpreting the Comparative Income Statement
(continued)
 The percentage change indicates whether the
change is:

Favorable

Unfavorable

Normal
Favorable
•Percentage increase in expenses or costs
is less than percentage increase in sales
•Percentage decrease in expenses or costs
is more than percentage decrease in sales
Unfavorable
•Percentage increase in expenses or costs
is greater than percentage increase in
sales
•Percentage decrease in expenses or costs
is less than percentage decrease in sales
Normal
 Percentage increase in expenses or costs is
equal to percentage increase in sales
 Percentage decrease in expenses or costs
is equal to percentage decrease in sales
Budgeted Income Statement

Businesses set goals, develop operational plans, and
project sales, expenses, and costs

Operational plans provide general guidelines for
achieving the company’s goals.

Operational plan is converted into a more precise plan
expressed in dollars by preparing a budgeted income
statement.
Budgeted Income Statement (continued)

Separate schedules are prepared to assist
management in evaluating operations and goals.
Sales budget schedule
 Purchases budget schedule
 Selling expenses budget schedule
 Administrative expenses budget schedule
 Other revenue and expenses budget schedule


Budgeted Income Statement shows a company’s
projected sales, costs, expenses, and net income.
Sales Budget Schedule
 Prepared first because other budget schedules are
affected by the projected net sales
 Projected net sales are used to estimate the amount
of merchandise to purchase and the amount that
may be spent for salaries, advertising, and other
selling and administrative expenses.
Purchases Budget Schedule
 Shows the projected amount of purchases that will
be required during a budget period
 Factors considered when planning a purchases
budget:

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Projected unit sales
Quantity of merchandise on hand at the beginning of the
budget period
Quantity of merchandise needed to fill projected sales
orders without having excessive inventory
Price trends of merchandise to be purchased
Selling Expenses Budget Schedule
 Shows projected expenditures directly related to
selling operations
 Some selling expenses are relatively stable and
require little budget planning. Example: Depreciation
Expense
 Other selling expenses increase and decrease in
relation to increases and decreases of sales.
 Most selling expenses are linked closely to net sales.
Administrative Expenses Budget Schedule
 Shows the projected expenses for all operating
expenses not directly related to selling operations
 Most administrative expenses are known and remain
the same each period.
 Sources used to prepare this budget schedule are:
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Past records
Company plans
Sales and selling expenses budget schedules
Discussions with other managers
Other Revenue and Expenses Budget Schedule
 Show projections for revenue and expenses from
activities other than normal operations.
 Typical items in this budget schedule are:
 Interest income
 Interest expense
 Gains or losses on sale of plant assets
Budgeted Income Statement
 Shows a company’s projected sales, costs,
expenses, and net income
 Prepared from the details of the five budget
schedules
 Allows for budgeting of federal income tax
Cash Budgets
 Good
cash management requires planning and
controlling cash so that it will be available to
meet obligations when they come due.
 Cash
budgets help analyze cash inflows and
outflows.
Cash Budgets (continued)
 Cash
receipts budget schedule reports
projected cash receipts for a budget period.
Projections
are made from the following:
Cash sales
Collections on account from customers
Cash to be received from other sources
Cash Budgets (continued)
 Cash payments budget schedule reports projected cash
payments for a budget period.
 Projections are made from the following:
 Cash payments for accounts payable or notes payable
to vendors
 Cash payments for each expense item (requires an
analysis of the selling expenses, administrative
expenses, and other revenue and expenses budget
schedules)
 Cash payment for buying equipment and other assets
 Cash payments for dividends
 Cash payments for investments
Cash Budgets & Performance Reports

Analysis of actual cash balance is used to determine
how actual cash compares to projected cash
 If
actual cash is less than projected cash, management
must determine the reason and take action to correct.
 Decrease could be caused by customers not
paying
 Decrease could be caused by expenses
exceeding budget projections
 If decrease continues, business may have to
borrow money until receipts and expenses are
brought into balance.
Performance Reports
Compares
actual amounts with the budgeted
income statement
Shows
variations between actual and projected
items
Management
reviews performance reports to
identify areas that need to be reviewed.
Performance Reports (continued)
 First
column shows amounts projected.
 Second
column shows actual sales, costs, and
expenses.
 Third
column shows the difference between actual and
projected.
 Fourth
column shows the percentage of the amount
increased or decreased from the projected amount
Performance Reports (continued)
Management
should determine what
causes unfavorable results and how to
correct those situations.
Management
should also determine what
causes favorable results and encourage
continuation of those actions.