Lecture 7

Operating Budgets: Bridging

Planning and Control

What is a budget and why firms use

a budget?
A budget is a detailed plan for
acquiring and using the resources.
Why use a budget?
Planning
Facilitating communication and
coordination
Allocating limited resources
Managing performance
Controlling and evaluating performance

Types of budgets
Master budget: A comprehensive set of
budgets covering all phases of an
organizations operations for a particular
period of time.
Budgeted financial statements: Income
statement, Balance sheet and Cash flow
statement
Capital budget: Plan for acquisition of capital
assets
Rolling budget: Continuously updated budgets

Components Of A Master Budget For Manufacturing firm

Sales Budget
Production Budget
Direct Material
Budget
Budgeted Schedule
cost of goods
manufactured and sold

Direct Labor
Budget

Mft. Overhead
Budget

Cash Budget

Budgeted Income
Statement
Capital Budget

Selling, General
and Administrative
Budget
R&D
Budget

Budgeted Balance
Sheet

Marketing
Budget

Budgeted Statement
of Cash Flows

Customer Service
Budget

Master Budget
Revenue budget (or sales budget) is the starting
point. This is done both in terms of units and dollars
Production budget is derived from the sales budget
based on inventory policy
Beginning inventory + units to be manufactured = Units
to be sold + Ending inventory

Derive the direct materials budget in units and

dollars.
Beginning inventory + Quantity to be purchased =
Quantity required for production + Ending inventory

Direct labor budget is prepared for the planned

production volume in labor hours and dollars.

Master Budget (Continued)

Now, estimate the manufacturing overhead
cost.
Fixed manufacturing overhead is estimated as a
lump sum.
Variable manufacturing overhead is estimated
according to the estimated variable overhead
rate multiplied by the number of cost driver
units corresponding to the production plan.

Prepare cost of goods manufactured budget.

cost of goods manufactured = Direct material +
Direct labor + Manufacturing overhead cost.

Master Budget (Continued)

Prepare Cost of goods sold budget
Cost of goods sold = Beginning FG inventory +
Cost of goods manufactured Ending FG
inventory

Estimate the marketing and administrative

cost budget.
Estimate the budgets for any other operating
and non-operating expense.
Now, prepare the projected income statement
Finally, prepare the projected balance sheet.

Cash Budget
Cash budget is a systematic projection of all
cash inflows and cash outflows.
Consists of six elements:
Beginning cash balance. Obtained from the desired
ending cash balance from last periods budget.
Cash receipts. Primary cash inflow is from
customers. Credit policy will influence when cash
inflows will occur. Need to forecast based on prior
patterns.
Cash inflow can also from sources such as deposits
and notes receivables.

Cash budget (Continued)

Cash disbursements for operating purposes

For
For
For
For

direct materials
direct labor
manufacturing overhead
non-manufacturing costs.

Other Cash disbursements

Financing needs
Capital equipment needs

Decide whether to finance more cash or

deposit excess cash
Ending cash balance

Factors influencing budgeting

process
Organizational structure
Responsibility center is a sub-unit of an
organization whose manager is held
responsible for some results
Cost centers, Profit centers and
Investment centers

Style of budgeting
Top-down and Bottom-up budgeting

Recursive nature of budgets