Chapter 9

Profit Planning
and
Activity-Based
Budgeting
Purposes of Budgeting Systems
Budget
Budget
1. Planning
a detailed plan,
2. Facilitating
expressed in Communication and
quantitative terms, Coordination
that specifies how 3. Allocating Resources
resources will be 4. Controlling Profit and
acquired and used Operations
during a specified 5. Evaluating
period of time. Performance and
Providing Incentives
9-2
 Types of Budgets
Detail
Budget
Detail

Materials
Budget
Detail

Production
Budget
Master
Budget
Covering all Sales
phases of
a company’s
operations.

9-3
 Types of Budgets
Income
Statement

Budgeted
Financial
Statements

Balance Statement of
Sheet Cash Flows
9-4
 Types of Budgets
Capital
Capital budgets
budgets with
with acquisitions
acquisitions
that
that normally
normally cover
cover several
several years.
years.
Financial
Financial budgets
budgets with
with financial
financial
resource
resource acquisitions.
acquisitions.
Long Range Budgets

Continuous or
1999Rolling Budget2000 2001 2002

This
This budget
budget is
is usually
usually aa twelve-month
twelve-month
budget
budget that
that rolls
rolls forward
forward one
one month
month
as
as the
the current
current month
month is
is completed.
completed.

9-5
 Sales of Services or Goods

Ending
Inventory Production
Budget Budget
Work in Process
and Finished
Goods

Ending Direct Direct Selling and

Overhead
Inventory Materials Labor Administrative
Budget Budget Budget Budget
Budget
Direct Materials

Cash Budget
Budgeted Income
Statement
Budgeted Balance
Sheet
Budgeted Statement
of Cash Flows
9-6
 Activity-Based Costing versus
Activity-Based Budgeting
Resources
Resources Resources
Resources
Activity-Based
Activity-Based
Costing
Costing (ABC)
(ABC)
Activities
Activities Activities
Activities

Activity-Based
Activity-Based
Cost Budgeting
Budgeting (ABB)
(ABB)
Cost objects:
objects: Forecast
Forecast of
of products
products
products
products and
and services
services and
and services
services to
to be
be
produced,
produced, and
and produced
produced andand
customers
customers served.
served. customers
customers served.
served.
9-7
 Sales Budget
Breakers,
 Breakers, Inc.
Inc. is
is preparing
preparing budgets
budgets for
for the
the quarter
quarter
ending
ending June
June 30.
30.
Budgeted
 Budgeted sales
sales forfor the
the next
next five
five months
months are:
are:
 April
April 20,000
20,000 units
units
 May
May 50,000
50,000 units
units
 June
June 30,000
30,000 units
units
 July
July 25,000
25,000 units
units
 August
August 15,000
15,000 units.
units.
The
 The selling
selling price
price isis $10
$10 per
per unit.
unit.
9-8
 Sales Budget
April
April May
May June
June Quarter
Quarter

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

9-9
 Production Budget

Sales Production
Budget Budget
t ed
e
pl
om
C

Production must be adequate to meet budgeted

sales and provide for sufficient ending inventory.

9-10
 Production Budget

The
The management
management of of Breakers,
Breakers, Inc.
Inc. wants
wants ending
ending
inventory
inventory to
to be
be equal
equal to
to 20%
20% ofof the
the following
following
month’s
month’s budgeted
budgeted sales
sales in
in units.
units.

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

 Let’s
Let’s prepare
prepare the
the production
production budget.
budget.

9-11
 Production Budget
April
April May
May June
June Quarter
Quarter
Sales
Sales ininunits
units 20,000
20,000
Add:
Add: desired
desired
end.
end. inventory
inventory 10,000
10,000
Total
Total needed
needed 30,000
30,000
Less:
Less: beg.
beg.
inventory
inventory
Units
Units to
tobe
be
produced
produced

9-12
 Production Budget
April
April May
May June
June Quarter
Quarter
Sales
Sales ininunits
units 20,000
20,000
Add:
Add: desired
desired
end.
end. inventory
inventory 10,000
10,000
Total
Total needed
needed 30,000
30,000
Less:
Less: beg.
beg.
inventory
inventory 4,000
4,000
Units
Units to
tobe
be
produced
produced 26,000
26,000

March 31
ending inventory
9-13
 Production Budget
April
April May
May June
June Quarter
Quarter
Sales
Sales ininunits
units 20,000
20,000 50,000
50,000
Add:
Add: desired
desired
end.
end. inventory
inventory 10,000
10,000 6,000
6,000
Total
Total needed
needed 30,000
30,000 56,000
56,000
Less:
Less: beg.
beg.
inventory
inventory 4,000
4,000 10,000
10,000
Units
Units to
tobe
be
produced
produced 26,000
26,000 46,000
46,000

9-14
 Production Budget
April
April May
May June
June Quarter
Quarter
Sales
Sales ininunits
units 20,000
20,000 50,000
50,000 30,000
30,000 100,000
100,000
Add:
Add: desired
desired
end.
end. inventory
inventory 10,000
10,000 6,000
6,000 5,000
5,000 5,000
5,000
Total
Total needed
needed 30,000
30,000 56,000
56,000 35,000
35,000 105,000
105,000
Less:
Less: beg.
beg.
inventory
inventory 4,000
4,000 10,000
10,000 6,000
6,000 4,000
4,000
Units
Units to
tobe
be
produced
produced 26,000
26,000 46,000
46,000 29,000
29,000 101,000
101,000

9-15
 From
sales
Production Budget
budget
April
April May
May June
June Quarter
Quarter
Sales
Sales ininunits
units 20,000
20,000 50,000
50,000 30,000
30,000 100,000
100,000
Add:
Add: desired
desired Ending inventory becomes
end.
end. inventory
inventory 10,000
10,000 6,000beginning 5,000
6,000 5,000
inventory 5,000
5,000
the next
Total
Total needed
needed 30,000
30,000 56,000
56,000 35,000
month
35,000 105,000
105,000
Less:
Less: beg.
beg.
inventory
inventory 4,000
4,000 10,000
10,000 6,000
6,000 4,000
4,000
Units
Units to
tobe
be
produced
produced 26,000
26,000 46,000
46,000 29,000
29,000 101,000
101,000

March 31
ending inventory
9-16
 Direct-Material Budget
•• At
At Breakers,
Breakers, five
five pounds
pounds of of material
material areare required
required
per
per unit
unit of
of product.
product.
•• Management
Management wants wants materials
materials on
on hand
hand at at the
the end
end
of
of each
each month
month equal
equal to
to 10%
10% ofof the
the following
following
month’s
month’s production.
production.
•• On
On March
March 31,
31, 13,000
13,000 pounds
pounds ofof material
material areare on
on
hand.
hand. Material
Material cost
cost $.40
$.40 per
per pound.
pound.

 Let’s
Let’s prepare
prepare the
the direct
direct materials
materials budget.
budget.

9-17
Direct-Material Budget

From our
production
budget
9-18
 Direct-Material Budget

10% of the following

month’s production
9-19
 Direct-Material Budget

March 31
inventory
9-20
Direct-Material Budget

9-21
 From our
production
Direct-Material Budget
budget

10% of the following March 31

month’s production inventory
9-22
 Direct-Material Budget
July
July Production
Production
Sales
Salesinin units
units 25,000
25,000
Add:
Add:desired
desired ending
ending inventory
inventory 3,000
3,000
Total
Total units
unitsneeded
needed 28,000
28,000
Less:
Less:beginning
beginning inventory
inventory 5,000
5,000
Production
Production inin units
units 23,000
23,000

June Ending Inventory

July production in units 23,000
Materials per unit 5
Total units needed 115,000
Inventory percentage 10%
June desired ending inventory 11,500

9-23
 Direct-Labor Budget
• At Breakers, each unit of product requires 0.1 hours
of direct labor.
• The Company has a “no layoff” policy so all
employees will be paid for 40 hours of work each
week.
• In exchange for the “no layoff” policy, workers agreed
to a wage rate of $8 per hour regardless of the hours
worked (No overtime pay).
• For the next three months, the direct labor workforce
will be paid for a minimum of 3,000 hours per month.
 Let’s prepare the direct labor budget.
9-24
Direct-Labor Budget

From our
production
budget

9-25
Direct-Labor Budget

9-26
 Direct-Labor Budget

From our This is the greater of

production labor hours required or
budget labor hours guaranteed.
9-27
 Overhead Budget
Here is Breakers’ Overhead Budget for the quarter.

9-28
 Selling and Administrative
Expense Budget

•• At
At Breakers,
Breakers, variable
variable selling
selling and
and administrative
administrative
expenses
expenses areare $0.50
$0.50 per
per unit
unit sold.
sold.
•• Fixed
Fixed selling
selling and
and administrative
administrative expenses
expenses areare
$70,000
$70,000 per
per month.
month.
•• The
The $70,000
$70,000 fixed
fixed expenses
expenses include
include $10,000
$10,000 in in
depreciation
depreciation expense
expense that
that does
does not
not require
require aa cash
cash
outflows
outflows for
for the
the month.
month.

9-29
Selling and Administrative
Expense Budget

From our
Sales budget 9-30
Selling and Administrative
Expense Budget

9-31
Selling and Administrative
Expense Budget

9-32
 Cash Receipts Budget
•• At
At Breakers,
Breakers, all
all sales
sales are
are on
on account.
account.
•• The
The company’s
company’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 uncollected.
uncollected.
•• The
The March
March 3131 accounts
accounts receivable
receivable balance
balance of
of
$30,000
$30,000 will
will be
be collected
collected inin full.
full.

9-33
Cash Receipts Budget

9-34
Cash Receipts Budget

9-35
 Cash Disbursement Budget

•• Breakers
Breakers pays
pays $0.40
$0.40 per
per pound
pound for
for its
its materials.
materials.
•• One-half
One-half ofof aa month’s
month’s purchases
purchases areare paid
paid for
for in
in the
the
month
month ofof purchase;
purchase; the
the other
other half
half is
is paid
paid in
in the
the
following
following month.
month.
•• No
No discounts
discounts areare available.
available.
•• The
The March
March 31 31 accounts
accounts payable
payable balance
balance is is
$12,000.
$12,000.

9-36
 Cash Disbursement Budget

140,000 lbs. × $.40/lb. = $56,000

9-37
Cash Disbursement Budget

9-38
 Cash Disbursement Budget
Breakers:
Breakers:
–– Maintains
Maintains aa 12%
12% open
open line
line of
of credit
credit for
for $75,000.
$75,000.
–– Maintains
Maintains aa minimum
minimum cashcash balance
balance ofof $30,000.
$30,000.
–– Borrows
Borrows 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 ofof $25,000
$25,000 inin April.
April.
–– Purchases
Purchases $143,700
$143,700 ofof equipment
equipment inin 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 of of $40,000.
$40,000.
9-39
 Cash Budget
(Collections and Disbursements)

From our Cash

Receipts Budget

9-40
 Cash Budget
(Collections and Disbursements)

From our Cash

Disbursements
Budget

9-41
 Cash Budget
(Collections and Disbursements)

From our Direct

Labor Budget

9-42
 Cash Budget
(Collections and Disbursements)

From our
Overhead Budget

9-43
 Cash Budget
(Collections and Disbursements)

From our
Selling and Administrative
Expense Budget

9-44
 Cash Budget
(Collections and Disbursements)

To maintain a cash
balance of $30,000,
Breakers must borrow
$35,000 on its line of credit.

9-45
 Cash Budget
(Financing and Repayment)

Ending cash balance for April

is the beginning May balance.

9-46
 Cash Budget
(Collections and Disbursements)

Breakers must
borrow an
addition $13,800
to maintain a
cash balance
of $30,000.

9-47
 Cash Budget
(Financing and Repayment)

9-48
 Cash Budget
(Collections and Disbursements)

At the end of June, Breakers

has enough cash to repay
the $48,800 loan plus interest
at 12%.

9-49
 Cash Budget
(Financing and Repayment)

9-50
 Cash Budget
(Collections and Disbursements)

9-51
 Cash Budget
(Financing and Repayment)

9-52
 Cost of Goods Manufactured
April May June Quarter
Direct material:
Beg.material inventory $ 5,200 $ 9,200 $ 5,800 $ 5,200
Add: Materials purchases 56,000 88,600 56,800 201,400
Material available for use 61,200 97,800 62,600 206,600
Deduct: End. material inventory 9,200 5,800 4,600 4,600
Direct material used 52,000 92,000 58,000 202,000
Direct labor 24,000 36,800 24,000 84,800
Manufacturing overhead 56,000 76,000 59,000 191,000
Total manufacturing costs 132,000 204,800 141,000 477,800
Add: Beg. Work-in-process inventory 3,800 16,200 9,400 3,800
Subtotal 135,800 221,000 150,400 481,600
Deduct: End.Work-in-process inventory 16,200 9,400 17,000 17,000
Cost of goods manufactured $ 119,600 $ 211,600 $ 133,400 $ 464,600

9-53
 Cost of Goods Sold

April May June Quarter

Cost of goods manufactured $ 119,600 $ 211,600 $ 133,400 $ 464,600
Add: Beg. finished-goods inventory 18,400 46,000 27,600 18,400
Cost of goods available for sale 138,000 257,600 161,000 483,000
Deduct: End. finished-goods inventory 46,000 27,600 23,000 23,000
Cost of goods sold $ 92,000 $ 230,000 $ 138,000 $ 460,000

9-54
 Budgeted Income Statement

Cost of Budgeted
Goods Income
Manufact- Statement
t ed
l e
uredm
p and
CoSold

After we complete the cost of goods manufactured

and sold schedules, we can prepare
the budgeted income statement for Breakers.
9-55
 Budgeted Income Statement
Breakers,
Breakers, Inc.
Inc.
Budgeted
BudgetedIncome
Income Statement
Statement
For
Forthe
the Three
Three Months
MonthsEnded
EndedJune
June 30
30
Revenue
Revenue (100,000
(100,000×× $10)
$10) $$ 1,000,000
1,000,000
Cost
Costofofgoods
goodssold
sold 460,000
460,000
Gross
Grossmargin
margin 540,000
540,000
Operating
Operatingexpenses:
expenses:
Selling
Sellingand
andadmin.
admin. expenses
expenses $$ 260,000
260,000
Interest
Interestexpense
expense 838
838
Total
Total operating
operatingexpenses
expenses 260,838
260,838
Net
Netincome
income $$ 279,162
279,162

9-56
 Budgeted Statement of Cash Flows
April May June Quarter
Cash flows from operating activities:
Cash receipts from customers $ 170,000 $ 400,000 $ 335,000 $ 905,000
Cash payments:
To suppliers of raw material (40,000) (72,300) (72,700) (185,000)
For direct labor (24,000) (36,800) (24,000) (84,800)
For manufacturing-overhead expenditures (56,000) (76,000) (59,000) (191,000)
For selling and administrative expenses (70,000) (85,000) (75,000) (230,000)
For interest - - (838) (838)
Total cash payments (190,000) (270,100) (231,538) (691,638)
Net cash flow from operating activities $ (20,000) $ 129,900 $ 103,462 $ 213,362
Cash flows from investing activities:
Purchase of equipment - (143,700) (48,300) (192,000)
Net cash used by investing activities $ - $ (143,700) $ (48,300) $ (192,000)
Cash flows from financing activities:
Payment of dividends (25,000) - - (25,000)
Principle of bank loan 35,000 13,800 - 48,800
Repayment of bank loan - - (48,800) (48,800)
Net cash provided by financing activities $ 10,000 $ 13,800 $ (48,800) $ -
Net increase in cash $ (10,000) $ - $ 6,362 $ (3,638)
Balance in cash, beginning 40,000 30,000 30,000 40,000
Balance in cash. end of month $ 30,000 $ 30,000 $ 36,362 $ 36,362
9-57
 Budgeted Balance Sheet
Breakers
Breakers reports
reports thethe following
following account
account balances
balances
on
on June
June 3030 prior
prior toto preparing
preparing its
its budgeted
budgeted
financial
financial statements:
statements:
••Land
Land -- $50,000
$50,000
••Building
Building (net)
(net) -- $148,000
$148,000
••Common
Common stock
stock -- $217,000
$217,000
••Retained
Retained earnings
earnings -- $46,400
$46,400

9-58
 25%of June
sales of
$300,000

11,500 lbs. at
$.40 per lb.

5,000 units at
$4.60 per unit.

9-59
50% of June
purchases
of $56,800

9-60
 Sales of Services or Goods

Ending
Inventory Production
Budget Budget
Work in Process
and Finished
Goods
When the interactions of the elements
of the master
Ending Direct budget
Directare expressedSelling
Overhead as and
Inventory Materials Labor Administrative
Budget a set of mathematical
Budget Budget relations,
Budget it Budget
becomes a financial planning model
Direct Materials

that can be used to answer “what if”

Cash Budget
questions about unknown variables. Budgeted Income
Statement
Budgeted Balance
Sheet
Budgeted Statement
of Cash Flows
9-61
 Budget Administration

The Budget Committee is a standing

committee responsible for . . .

 overall
overall policy
policy matters
matters relating
relating to
to the
the budget.
budget.
 coordinating

coordinating the
the preparation
preparation of
of the
the budget.
budget.

9-62
 E-Budgeting

Employees throughout an organization

can submit and retrieve budget
information electronically. This tends to
streamline the entire budgeting process.

9-63
 Firewalls and Information
Security
Budget information is extremely sensitive and
confidential. A firewall is a computer or
router placed between a company’s internal
network and the internet to control all
information between the outside world and
the company’s local network.

9-64
 Zero-Base Budgeting
To receive funding during the budgeting
process, each activity must be justified in
terms of its continued usefulness.

9-65
International Aspects of Budgeting

Firms
Firms with
with international
international operations
operations face
face
special
special problems
problems when
when preparing
preparing aa budget.
budget.
Fluctuations
 Fluctuations in
in foreign
foreign currency
currency exchange
exchange
rates.
rates.
High
 High inflation
inflation rates
rates inin some
some foreign
foreign countries.
countries.
Differences
 Differences inin local
local economic
economic conditions.
conditions.

9-66
 Budgeting Product Life-Cycle
Costs
Product
Product planning
planning
and
and concept
concept
Design.
Design.

Distribution
Distribution Preliminary
Preliminary
and
and customer
customer design.
design.
service.
service.

Detailed
Detailed design
design
Production.
Production. and
and testing.
testing.

9-67
 Behavioral Impact of Budgets
Budgetary Slack: Padding the Budget
People often perceive that their performance will
look better in their superiors’ eyes if they can
“beat the budget.”

9-68
 Participative Budgeting
Top M anagem ent

M i d d le M i d d le
M anagem ent M anagem ent

S u p e r v is o r S u p e r v is o r S u p e r v is o r S u p e r v is o r

Flow of Budget Data

9-69