SLD 09

Chapter
9
Profit Planning
9-2
LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Understand why organizations budget and the
processes they use to create budgets.
2. Prepare a sales budget, including a schedule
of expected cash receipts.
3. Prepare a production budget..
4. Prepare a direct materials budget, including a
schedule of expected cash disbursements for
purchases of materials.
5. Prepare a direct labour budget.
© McGraw-Hill Ryerson Limited., 2001

9-3
LEARNING OBJECTIVES
After studying this chapter, you should be able to:
6. Prepare a manufacturing overhead budget.

7. Prepare an ending finished goods inventory
budget.
8. Prepare a selling and administrative expense
budget.
9. Prepare a cash budget.
10. Prepare a budgeted income statement and a
budgeted balance sheet.
11. (Appendix 9A) Compute the optimum inventory
level and order size.

9-4
The Basic Framework of Budgeting

Detail
Budget
Detail
Ma terials
Budget
Detail
Production
Budget
Master
Budget
Sales
Summary of
a company’s
plans.

9-5
Planning and Control
! Planning -- ! Control -- involves

involves the steps taken by
developing management that
objectives and attempt to ensure
preparing various the objectives are
budgets to achieve attained.
these objectives.

9-6
Advantages of Budgeting
Define goal
and objectives
Communicating Think about and
plans plan for the future
Advantages
Coordinate Means of allocating
activities resources
Uncover potential
bottlenecks

9-7
Responsibility Accounting
Managers should be held responsible for

those items — and only those items — that
the manager can actually control
to a significant extent.

9-8
Choosing the Budget Period
Operating Budget
1999 2000 2001 2002
The annual operating budget

may be divided into quarterly
or monthly budgets.

9-9
Choosing the Budget Period
Continuous or
Perpetual Budget
1999 2000 2001 2002
This budget is usually a twelve-month

budget that rolls forward one month
as the current month is completed.

9-10
Participative Budget System
Top Management
Middle Middle
Management Management
Supervisor Supervisor Supervisor Supervisor
Flow of Budget Data

9-11
The Budget Committee
A standing committee responsible for

"overall policy matters relating to the budget
"coordinating the preparation of the budget

9-12
The Master Budget

Sales
B udget
Selling and
A dm inistrative
B udget

9-13
The Master Budget

Sales
B udget
Ending Selling and

Production
Inventory A dm inistrative
B udget
B udget B udget
D irect D irect M anufacturing

M aterials Labour O verhead
B udget B udget B udget

9-14
The Master Budget

Sales
B udget
Ending Selling and

Production
Inventory A dm inistrative
B udget
B udget B udget
D irect D irect M anufacturing

M aterials Labor O verhead
B udget B udget B udget
C ash
B udget
Budgeted Financial Statements

9-15
The Sales Budget
Detailed schedule showing expected

sales for the coming periods
expressed in units and dollars.

9-16
Budgeting Example
#Royal Company is preparing budgets for the
quarter ending June 30.
$Budgeted sales for the next five months are:
April 20,000 units
May 50,000 units
June 30,000 units
July 25,000 units
August 15,000 units.
%The selling price is $10 per unit.

9-17
The Sales Budget
April May June Quarter

Budgeted
sales (units) 20,000 50,000 30,000 100,000
Selling price
per unit
Total sales

9-18
The Sales Budget

Budgeted
sales (units) 20,000 50,000 30,000 100,000
Selling price
per unit $ 10 $ 10 $ 10 $ 10
Total sales $ 200,000 $ 500,000 $ 300,000 $ 1,000,000

9-19
The Production Budget
Sales Production
Budget Budget
t ed
p le
o m
C
Production must be adequate to meet budgeted

sales and provide for sufficient ending inventory.

9-20
! Royal Company wants ending inventory

to be equal to 20% of the following
month’s budgeted sales in units.
! On March 31, 4,000 units were on hand.
Let’s prepare the production budget.

9-21

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000
Total needed 30,000
Less beginning
inventory 4,000
Required production 26,000
Budgeted
Budgeted sales
sales 50,000
50,000
Desired
Desired percent
percent 20%
20%
Desired
Desired inventory
inventory 10,000
10,000
9-22

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000
Total needed 30,000
Less beginning
inventory 4,000
March
March 31
31
ending
ending inventory
inventory
9-23

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending 20%
inventory 10,000 6,000
Total needed 30,000 56,000
Less beginning
inventory 4,000

9-24

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
Total needed 30,000 56,000
Less beginning
Required production 26,000 46,000

9-25

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000 6,000 5,000 5,000
Total needed 30,000 56,000 35,000 105,000
Less beginning
inventory 4,000 10,000 6,000 4,000
Required production 26,000 46,000 29,000 101,000

9-26
Expected Cash Collections
!
! All
All sales
sales are
are on
on account.
account.
!
! Royal’s
Royal’s collection
collection pattern
pattern is:
is:
70%
70% collected
collected in
in the
the month
month of
of sale,
sale,
25%
25% collected
collected in
in the
the month
month following
following sale,
sale,
5%
5% is
is uncollectible.
uncollectible.
!
! The
The March
March 31
31 accounts
accounts receivable
receivable
balance
balance of
of $30,000
$30,000 will
will be
be collected
collected in
in
full.
full.

9-27

Accounts rec. - 3/31 $ 30,000 $ 30,000
Total cash collections

9-28

Accounts rec. - 3/31 $ 30,000 $ 30,000
April sales
70% x $200,000 140,000 140,000
25% x $200,000 $ 50,000 50,000
Total cash collections $ 170,000

9-29

Accounts rec. - 3/31 $ 30,000 $ 30,000
April sales
70% x $200,000 140,000 140,000
25% x $200,000 $ 50,000 50,000
May sales
70% x $500,000 350,000 350,000
25% x $500,000 $ 125,000 125,000
Total cash collections $ 170,000 $ 400,000

9-30

Accounts rec. - 3/31 $ 30,000 $ 30,000
April sales
70% x $200,000 140,000 140,000
25% x $200,000 $ 50,000 50,000
May sales
70% x $500,000 350,000 350,000
25% x $500,000 $ 125,000 125,000
June sales
70% x $300,000 210,000 210,000
Total cash collections $ 170,000 $ 400,000 $ 335,000 $ 905,000

9-31
The Direct Materials Budget

!
! At
At Royal
Royal Company,
Company, five
five kilograms
kilograms of
of
material
material are
are required
required per
per unit
unit of
of product.
product.
!
! Management
Management wantswants materials
materials onon hand
hand atat
the
the end
end of
of each
each month
month equal
equal toto 10%
10% ofof the
the
following
following month’s
month’s production.
production.
!
! On
On March
March 31,
31, 13,000
13,000 kilograms
kilograms of of material
material
are
are on
on hand.
hand. Material
Material cost
cost $0.40
$0.40 perper
kilogram.
kilogram.
Let’s
Let’s prepare
prepare the
the direct
direct materials
materials budget.
budget.

9-32

Production 26,000 46,000 29,000 101,000
Materials per unit
Production needs
Add desired
ending inventory
Total needed
Less beginning
inventory
Materials to be
purchased
From
From production
production
budget
budget
9-33

Production 26,000 46,000 29,000 101,000
Materials per unit 5 5 5 5
Production needs 130,000 230,000 145,000 505,000
Add desired
ending inventory
Total needed
Less beginning
inventory
Materials to be
purchased

9-34

Production 26,000 46,000 29,000 101,000
Add desired
ending inventory 23,000
Total needed 153,000
Less beginning
inventory
Materials to be
purchased
10%
10% of
of the
the following
following
month’s
month’s production
production

9-35

Production 26,000 46,000 29,000 101,000
Add desired
ending inventory 23,000
Total needed 153,000
Less beginning
inventory 13,000
Materials to be
purchased 140,000
March
March 31
31
inventory
inventory

9-36

Production 26,000 46,000 29,000 101,000
Add desired
ending inventory 23,000 14,500 11,500 11,500
Total needed 153,000 244,500 156,500 516,500
Less beginning
inventory 13,000 23,000 14,500 13,000
Materials to be
purchased 140,000 221,500 142,000 503,500

9-37

Production 26,000 46,000 29,000 101,000
Add desired
ending inventory 23,000 14,500 11,500 11,500
July Production
Total needed a nd Inve ntory
153,000 244,500 156,500 516,500
Salesbeginning
Less in units 25,000
Add desire d ending inventory
23,000 14,500 13,000
Tota l units
Materials tonee
be ded 28,000
Le ss beginning inve ntory
purchased 140,000 5,000
221,500 142,000 503,500
Production in units 23,000
Kilograms per unit 5
Tota l kilogra ms, July 115,000
Desired pe rcent 10%
Desired ending inve ntory, June 11,500
9-38
Expected Cash Disbursement for Materials
!
! Royal
Royal pays
pays $0.40
$0.40 per
per kilogram
kilogram for
for its
its
materials.
materials.
!
! One-half
One-half of of aa month’s
month’s purchases
purchases are
are paid
paid
for
for in
in the
the month
month of of purchase;
purchase; the
the other
other
half
half is
is paid
paid in
in the
the following
following month.
month.
!
! The
The March
March 3131 accounts
accounts payable
payable balance
balance
is
is $12,000.
$12,000.
Let’s
Let’s calculate
calculate expected
expected cash
cash
disbursements.
disbursements.
9-39

Accounts pay. 3/31 $ 12,000 $ 12,000
April purchases
May purchases
June purchases
Total cash
disbursements

9-40

Accounts pay. 3/31 $ 12,000 $ 12,000
April purchases
50% x $56,000 28,000 28,000
50% x $56,000 $ 28,000 28,000
May purchases
June purchases
Total cash
disbursements $ 40,000
140,000 lbs. × $.40/lb. = $56,000

9-41

Accounts pay. 3/31 $ 12,000 $ 12,000
April purchases
50% x $56,000 28,000 28,000
50% x $56,000 $ 28,000 28,000
May purchases
50% x $88,600 44,300 44,300
50% x $88,600 $ 44,300 44,300
June purchases
Total cash
disbursements $ 40,000 $ 72,300

9-42

Accounts pay. 3/31 $ 12,000 $ 12,000
April purchases
50% x $56,000 28,000 28,000
50% x $56,000 $ 28,000 28,000
May purchases
50% x $88,600 44,300 44,300
50% x $88,600 $ 44,300 44,300
June purchases
50% x $56,800 28,400 28,400
Total cash
disbursements $ 40,000 $ 72,300 $ 72,700 $185,000

9-43
The Direct Labour Budget

!
! At
At Royal,
Royal, each
each unit
unit of
of product
product requires
requires 0.05
0.05 hours
hours of
of
direct
direct labour.
labour.
!
! The
The Company
Company has has aa “no
“no layoff”
layoff” policy
policy so
so all
all employees
employees
will
will be
be paid
paid for
for 40
40 hours
hours of of work
work each
each week.
week.
!
! In
In exchange
exchange for for the
the “no
“no layoff”
layoff” policy,
policy, workers
workers agreed
agreed to
to
aa wage
wage rate
rate of
of $10
$10 per
per hour
hour regardless
regardless of of the
the hours
hours
worked
worked (No(No overtime
overtime pay).
pay).
!
! For
For the
the next
next three
three months,
months, the the direct
direct labour
labour workforce
workforce
will
will be
be paid
paid for
for aa minimum
minimum of of 1,500
1,500 hours
hours perper month.
month.
Let’s
Let’s prepare
prepare the
the direct
direct labour
labour budget.
budget.

9-44

Production 26,000 46,000 29,000 101,000
Direct labour hours
Labour hours required
Guaranteed labour hours
Labour hours paid
Wage rate
Total direct labour cost From production
budget

9-45

Production 26,000 46,000 29,000 101,000
Direct labour hours 0.05 0.05 0.05 0.05
Labour hours required 1,300 2,300 1,450 5,050
Guaranteed labour hours
Labour hours paid
Wage rate
Total direct labour cost

9-46

Production 26,000 46,000 29,000 101,000
Guaranteed labour hours 1,500 1,500 1,500
Labour hours paid 1,500 2,300 1,500 5,300
Wage rate
Total direct labour cost
Higher
Higher ofof labour
labour hours
hours required
required
or
or labour
labour hours
hours guaranteed.
guaranteed.

9-47

Production 26,000 46,000 29,000 101,000
Guaranteed labour hours 1,500 1,500 1,500
Labour hours paid 1,500 2,300 1,500 5,300
Wage rate $ 10 $ 10 $ 10 $ 10
Total direct labour cost $ 15,000 $ 23,000 $ 15,000 $ 53,000

9-48
Manufacturing Overhead Budget
! Royal Company uses a variable

manufacturing overhead rate of $1 per unit
produced.
produced
! Fixed manufacturing overhead is $50,000 per
month and includes $20,000 of non-cash
costs (primarily amortization of plant assets).
Let’s prepare the manufacturing

overhead budget.

9-49

Production in units 26,000 46,000 29,000 101,000
Variable mfg. OH rate $ 1 $ 1 $ 1 $ 1
Variable mfg. OH costs $ 26,000 $ 46,000 $ 29,000 $ 101,000
Fixed mfg. OH costs
Total mfg. OH costs
Less noncash costs
Cash disbursements
for manufacturing OH
From production
budget

9-50

Fixed mfg. OH costs 50,000 50,000 50,000 150,000
Total mfg. OH costs 76,000 96,000 79,000 251,000
Less noncash costs
Cash disbursements
for manufacturing OH

9-51

Fixed mfg. OH costs 50,000 50,000 50,000 150,000
Total mfg. OH costs 76,000 96,000 79,000 251,000
Less noncash costs 20,000 20,000 20,000 60,000
Cash disbursements
for manufacturing OH $ 56,000 $ 76,000 $ 59,000 $ 191,000
Amortization
Amortization is
is aa non-cash
non-cash charge.
charge.

9-52
Ending Finished Goods Inventory Budget
! Now, Royal can complete the ending

finished goods inventory budget.
! At Royal, manufacturing overhead is

applied to units of product on the basis of
direct labour hours.
Let’s calculate ending finished goods

inventory.
9-53
Production costs per unit Quantity Cost Total

Direct materials 5.00 lbs. $ 0.40 $ 2.00
Direct labour
Manufacturing overhead
Budgeted finished goods inventory

Ending inventory in units
Unit product cost
Ending finished goods inventory
Direct materials
budget and information

9-54

Direct labour 0.05 hrs. $ 10.00 0.50
Manufacturing overhead

Unit product cost
Direct labour
budget

9-55

Manufacturing overhead 0.05 hrs. $ 49.70 2.49
$ 4.99
Unit product cost $ 4.99
Total mfg. OH for quarter $251,000

= $49.70 per hr.*
Total labour hours required 5,050 hrs.
*rounded
9-56

Manufacturing overhead 0.05 hrs. $ 49.70 2.49
$ 4.99
Ending inventory in units 5,000
Unit product cost $ 4.99
Ending finished goods inventory $ 24,950
Production
Budget

9-57
Selling and Administrative Expense Budget
!
! At
At Royal,
Royal, variable
variable selling
selling and
and administrative
administrative
expenses
expenses are
are $0.50
$0.50 per
per unit
unit sold.
sold.
!
! Fixed
Fixed selling
selling and
and administrative
administrative expenses
expenses are
are
$70,000
$70,000 per
per month.
month.
!
! The
The fixed
fixed selling
selling and
and administrative
administrative expenses
expenses
include
include $10,000
$10,000 in
in costs
costs –– primarily
primarily amortization
amortization ––
that
that are
are not
not cash
cash outflows
outflows ofof the
the current
current month.
month.
Let’s
Let’s prepare
prepare the
the company’s
company’s selling
selling and
and
administrative
administrative expense
expense budget.
budget.

9-58

Budgeted sales 20,000 50,000 30,000 100,000
Variable selling
and admin. rate $ 0.50 $ 0.50 $ 0.50 $ 0.50
Variable expense $10,000 $25,000 $15,000 $ 50,000
Fixed selling and
admin. expense 70,000 70,000 70,000 210,000
Total expense 80,000 95,000 85,000 260,000
Less noncash
expenses
Cash disburse-
ments for
selling & admin.

9-59

Budgeted sales 20,000 50,000 30,000 100,000
Variable selling
and admin. rate $ 0.50 $ 0.50 $ 0.50 $ 0.50
Variable expense $10,000 $25,000 $15,000 $ 50,000
Fixed selling and
admin. expense 70,000 70,000 70,000 210,000
Total expense 80,000 95,000 85,000 260,000
Less noncash
expenses 10,000 10,000 10,000 30,000
Cash disburse-
ments for
selling & admin. $70,000 $85,000 $75,000 $230,000

9-60
The Cash Budget

Royal:
●
● Maintains
Maintains aa 16%
16% open
open line
line of
of credit
credit for
for $75,000.
$75,000.
●
● Maintains
Maintains aa minimum
minimum cash
cash balance
balance of
of $30,000.
$30,000.
●
● Borrows
Borrows on
on the
the first
first day
day of
of the
the month
month and
and repays
repays
loans
loans on
on the
the last
last day
day of
of the
the month.
month.
●
● Pays
Pays aa cash
cash dividend
dividend of
of $49,000
$49,000 in
in April.
April.
●
● Purchases
Purchases $143,700
$143,700 of
of equipment
equipment in
in May
May and
and
$48,300
$48,300 in
in June
June paid
paid in
in cash.
cash.
●
● Has
Has an
an April
April 11 cash
cash balance
balance ofof $40,000.
$40,000.

9-61
The Cash Budget

April May June Qua rte r
Be ginning cash bala nce
$ 40,000
Add cash collections 170,000
Total ca sh ava ila ble 210,000
Less disbursem ents
Ma te ria ls 40,000
Dire ct la bour
Mfg. overhea d
Se lling a nd a dm in.
Equipm ent purcha se Schedule
Schedule of
of Expected
Expected
Divide nds Cash
Cash Disbursements
Disbursements
Total disbursem ents
Exce ss (de ficie ncy) of
cash a vailable over Schedule
Schedule of
of Expected
Expected
disburse me nts Cash
Cash Collections
Collections

9-62
The Cash Budget

Be ginning cash bala nce $ 40,000
Add cash collections 170,000 Direct Labour
Total ca sh ava ila ble 210,000 Budget
Less disbursem ents
Ma te ria ls 40,000
Dire ct la bour 15,000
Mfg. overhea d 56,000 Manufacturing
Se lling a nd a dm in. 70,000 Overhead Budget
Equipm ent purcha se
Divide nds
Total disbursem ents
Selling and Administrative
cash a vailable over
disburse me nts Expense Budget

9-63
The Cash Budget

Be ginning cash bala nce $ 40,000
Add cash collections 170,000
Total ca sh ava ila ble 210,000
Less disbursem ents
Ma te ria ls 40,000 Because Royal maintains
Dire ct la bour 15,000 a cash balance of $30,000,
Mfg. overhea d 56,000 the company must
Se lling a nd a dm in. 70,000 borrow on its
Equipm ent purcha se -
Divide nds 49,000 line-of-credit
Total disbursem ents 230,000
disburse me nts $ (20,000)

9-64
Financing and Repayment

Excess (deficiency)
of Cash available
over disbursements $(20,000)
Financing:
Borrowing 50,000
Repayments -
Interest -
Total financing 50,000
Ending cash balance $ 30,000 $30,000 $ - $ -
Ending cash balance for April

is the beginning May balance.

9-65
The Cash Budget

Be ginning cash bala nce $ 40,000 $ 30,000
Add cash collections 170,000 400,000
Total ca sh ava ila ble 210,000 430,000
Less disbursem ents
Ma te ria ls 40,000 72,300
Dire ct la bour 15,000 23,000
Mfg. overhea d 56,000 76,000
Se lling a nd a dm in. 70,000 85,000
Equipm ent purcha se - 143,700
Divide nds 49,000 -
Total disbursem ents 230,000 400,000
disburse me nts $ (20,000) $ 30,000

9-66

Excess (deficiency)
of Cash available
over disbursements $(20,000) $30,000
Financing:
Borrowing 50,000 -
Repayments - -
Interest - -
Total financing 50,000 -
Ending cash balance $ 30,000 $30,000
Because the ending cash balance is

exactly $30,000, Royal will not repay
the loan this month.

9-67
The Cash Budget

Be ginning cash bala nce $ 40,000 $ 30,000 $ 30,000 $ 40,000
Add cash collections 170,000 400,000 335,000 905,000
Total ca sh ava ila ble 210,000 430,000 365,000 945,000
Less disbursem ents
Ma te ria ls 40,000 72,300 72,700 185,000
Dire ct la bour 15,000 23,000 15,000 53,000
Mfg. overhea d 56,000 76,000 59,000 191,000
Se lling a nd a dm in. 70,000 85,000 75,000 230,000
Equipm ent purcha se - 143,700 48,300 192,000
Divide nds 49,000 - - 49,000
Total disbursem ents 230,000 400,000 270,000 900,000
disburse me nts $ (20,000) $ 30,000 $ 95,000 $ 45,000

9-68
The Cash Budget

Be ginning cash bala nce $ 40,000 $ 30,000 $ 30,000 $ 40,000
Add cash collections 170,000 400,000 335,000 905,000
Total ca sh ava ila ble 210,000 430,000 365,000 945,000
Less disbursem ents
Ma te ria ls 40,000 72,300 72,700 185,000
Dire ct la bour 15,000 23,000 15,000 53,000
Mfg. overhea d 56,000 76,000 59,000 191,000
Se lling a nd a dm in. 70,000 85,000 75,000 230,000
Equipm ent purcha
At the
At the end of June, Royal
se end of- June,143,700
has enough
Royal has48,300 cash
enough192,000
cash
Divide nds to to repay
repay the $50,000
$50,000 loan
the49,000 loan- plus
plus interest
interest
- at 16%.
at49,000
16%.
Total disbursem ents 230,000 400,000 270,000 900,000
disburse me nts $ (20,000) $ 30,000 $ 95,000 $ 45,000

9-69

Excess (deficiency)
of Cash available
over disbursements $(20,000) $30,000 $95,000 $45,000
Financing:
Borrowing 50,000 - - 50,000
Repayments - - (50,000) (50,000)
Interest - - (2,000) (2,000)
Total financing 50,000 - (52,000) (2,000)
Ending cash balance $ 30,000 $30,000 $ 43,000 $43,000
$50,000 × 16% × 3/12 = $2,000

Borrowings on April 1 and
repayment of June 30.
9-70
The Budgeted Income Statement
Cash Budgeted
Budget Income
Statement
t ed
p le
m
Co
After we complete the cash budget,

we can prepare the budgeted income
statement for Royal.

9-71
The Budgeted Income Statement

Royal Company
Budgeted Income Statement
For the Three Months Ended June 30
Sales (100,000 units @ $10) $1,000,000

Cost of goods sold (100,000 @ $4.99) 499,000
Gross margin 501,000
Selling and administrative expenses 260,000
Operating income 241,000
Interest expense 2,000
Net income $ 239,000

9-72
The Budgeted Balance Sheet
Royal
Royal reported
reported the
the following
following account
account
balances
balances on
on June
June 3030 prior
prior to
to preparing
preparing its
its
budgeted
budgeted financial
financial statements:
statements:
"
"Land
Land -- $50,000
$50,000
"
"Building
Building (net)
(net) -- $175,000
$175,000
"
"Common
Common stock
stock -- $200,000
$200,000
"
"Retained
Retained earnings
earnings -- $146,150
$146,150

9-73
Royal Company
Budgeted Balance Sheet
25%of
25%of June
June
June 30
sales
sales of
of
Current assets $300,000
Cash $ 43,000
$300,000
Accounts receivable 75,000
11,500
11,500 kg
kg
Raw materials inventory 4,600
Finished goods inventory 24,950
at
at $0.40/kg
$0.40/kg
Total current assets 147,550
Property and equipment 5,000
5,000 units
units
Land 50,000 at
at $4.99
$4.99 each
each
Building 175,000
Equipment 192,000
Total property and equipment 417,000
Total assets $ 564,550
50%
50% ofof June
June
Accounts payable $ 28,400 purchases
purchases
Common stock 200,000 of
of $56,800
$56,800
Retained earnings 336,150
Total liabilities and equities $ 564,550
9-74
Royal Company
Budgeted Balance Sheet
June 30
Current assets
Cash $ 43,000
Accounts receivable 75,000
Beginning balance $146,150
Raw materials inventory 4,600
Add: net income 239,000
Finished goods inventory 24,950
Deduct: dividends (49,000)
Total current assets Ending balance
147,550 $336,150
Property and equipment
Land 50,000
Building 175,000
Equipment 192,000
Total property and equipment 417,000
Total assets $ 564,550
Accounts payable $ 28,400

Common stock 200,000
Retained earnings 336,150
Total liabilities and equities $ 564,550
9-75
Zero-Base Budgeting
Managers are required to justify all budgeted

expenditures, not just changes in the budget
from the previous year. The baseline is zero
rather than last year’s budget.

9-76
International Aspects of Budgeting
Multinational companies face special

problems when preparing a budget.
" Fluctuations in foreign currency exchange rates.
" High inflation rates in some foreign countries.
" Differences in local economic conditions.
" Local governmental policies.

Appendix
9A
Inventory Decisions
9-78
Costs Associated with Inventory
Transportation
Clerical Costs Costs
Inventory Ordering Costs

9-79
Storage Space Handling Cost
Insurance
Property
Taxes Inventory Carrying Costs
Interest on
Obsolescence
Capital invested
Losses
in Inventory
9-80

Quantity
Customer discounts lost Erratic
ill will production
Lost Cost of not carrying

sales sufficient inventory
Added Inefficiency of
transportation production runs
costs
9-81
Inventory Problems
! How much to order - Economic Order

Quantity (EOQ)
and
! When to order - Reorder Point

9-82
Economic Order Quantity (EOQ)
! Tabular approach
"Tabulates total cost at various order
sizes.
"Lowest cost indicates EOQ.
"Requires trial and error to determine
exact order quantity.

9-83
! Graphic approach
" Graph cost relationships between total
cost, annual carrying cost and annual
purchase order cost.
" Total cost is minimized where annual
carrying cost equals annual purchase
order cost

9-84
! Formula approach
" E= 2QP
C
where
E= order size in units
Q= annual quantity used in units
P= cost of placing one order
C= annual cost of carrying one unit in stock

9-85
Reorder Point/ Safety Stock
! Reorder Point - tells manager when to

place an order
"Depends on economic order quantity, lead
times and rate of usage during lead time
! Safety Stock - provides a buffer to protect
against a stock-out
"Reorder point is then calculated by adding
the safety stock to the average usage during
the lead time

9-86
End of Chapter 9

SLD 09

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Chapter

© McGraw-Hill Ryerson Limited., 2001

6. Prepare a manufacturing overhead budget.

© McGraw-Hill Ryerson Limited., 2001

The Basic Framework of Budgeting

© McGraw-Hill Ryerson Limited., 2001

Planning and Control

! Planning -- ! Control -- involves

© McGraw-Hill Ryerson Limited., 2001

© McGraw-Hill Ryerson Limited., 2001

Managers should be held responsible for

© McGraw-Hill Ryerson Limited., 2001

Choosing the Budget Period

1999 2000 2001 2002

The annual operating budget

© McGraw-Hill Ryerson Limited., 2001

Choosing the Budget Period

1999 2000 2001 2002

This budget is usually a twelve-month

© McGraw-Hill Ryerson Limited., 2001

Participative Budget System

Supervisor Supervisor Supervisor Supervisor

Flow of Budget Data

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The Budget Committee

A standing committee responsible for

© McGraw-Hill Ryerson Limited., 2001

The Master Budget

© McGraw-Hill Ryerson Limited., 2001

The Master Budget

Ending Selling and

D irect D irect M anufacturing

© McGraw-Hill Ryerson Limited., 2001

The Master Budget

Ending Selling and

D irect D irect M anufacturing

Budgeted Financial Statements

The Sales Budget

Detailed schedule showing expected

© McGraw-Hill Ryerson Limited., 2001

© McGraw-Hill Ryerson Limited., 2001

The Sales Budget

April May June Quarter

© McGraw-Hill Ryerson Limited., 2001

The Sales Budget

April May June Quarter

© McGraw-Hill Ryerson Limited., 2001

The Production Budget

Production must be adequate to meet budgeted

© McGraw-Hill Ryerson Limited., 2001

The Production Budget

! Royal Company wants ending inventory

! On March 31, 4,000 units were on hand.

Let’s prepare the production budget.

© McGraw-Hill Ryerson Limited., 2001

The Production Budget

April May June Quarter

The Production Budget

April May June Quarter

The Production Budget

April May June Quarter

© McGraw-Hill Ryerson Limited., 2001

The Production Budget