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BUDGETING

Salesprojections

Businesstrends

Inventoryneeds

Newcompetition

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What is a budget?

A formalized plan describing the use and source of financial and operating resources over a given time period

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PURPOSES OF BUDGETING

• Forces management planning• Motivation• Evaluation and control• Communication• Coordination• Education

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FEATURES OF A SOUNDBUDGETARY SYSTEM

Participative budgeting Frequent feedback on performance Realistic standards Controllability Flexible budgeting Multiple measures of performance Monetary and nonmonetary

incentives

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The Budgeting Process

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Strategic Plan

Short-TermObjectives

Short-TermPlan

Budgets

FeedbackCorrective

Action

Investigation

Comparison ofActual &Planned

Monitoring ofActual

ActivityLong-TermObjectives

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The MASTER BUDGET is a collection of various types of

budgets

Sales Production Purchases (Direct materials) Labor Manufacturing overhead Administrative Cash

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Master Budget Outputs

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OPERATING BUDGETS

Sales plan Production plan Materials purchasing plan Labor hiring and training plan Capital spending plan Administrative and

discretionary spending plan

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Sales BudgetThe sales budget represents

the expected quantity of each type of product/service

to be sold multiplied by its expected selling price.

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Generic budget format

Amount needed for current requirements

+ Amount desired for future needs

= Total needs - What is already on hand = Amount to be acquired

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Production

Predicted sales quantity + Desired ending inventory Total needed units - Amount already on hand

(beginning inventory) Units to be produced

Note the sales

budget figure will

be the starting

point for

this budget.

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Direct Materials (Purchasing)

This budget is for planning the acquisition of raw materials to support the organization’s production needs identified in the production budget.

Units to be produced x Raw material required per unit produced Total raw material needed for production + Desired ending inventory = Total raw material needed - Inventory on hand = Raw materials to be acquired

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CAPITAL BUDGET

Purpose is to plan for the acquisition of land, buildings, and capital equipment for expansion and/or replacement.

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FINANCIAL BUDGETS

Master Budget usually presented in three forms:

A statement of expected cash flows The projected balance sheet The projected income statement

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FLEXIBLE vs. STATIC BUDGETS

Flexible budgets - those that vary with the activity level in the firm

Static budgets - those that do not change with changes in activity levels

The use of the budget data determines which type of budget is most appropriate

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BUDGETING APPROACHES

Incremental budgeting– A budgeting approach that assumes the starting point

for each budget item is the amount spent on it in the previous budget

– The new budget is seen as last year’s +/- a specified increment

– Less costly but may not be strategically sound

Zero-based budgeting– A budgeting approach that assumes the starting point

for each budget item is zero– Essential feature is a review of the necessity of each

expenditure element/activity as part of the budgeting process

– More costly but more strategically sound

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Behavioral Aspects of Budgeting

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DESIGNING THE BUDGET PROCESS

How should budgets be determined?

Who should be involved in the budgeting process?

At what level of difficulty should the budget be set to have the greatest positive influence on people’s motivation and performance?

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Top management wants ourbudget figures for the month.What should we tell them?