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Module 21

Module 21. Operational Budgeting and Profit Planning. Budget. Financial plan for an organization Operating plans: sales, purchasing, production, selling, general, and administrative expenses Cash inflows/outflows

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Module 21

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  1. Module 21 Operational Budgeting and Profit Planning

  2. Budget • Financial plan for an organization • Operating plans: sales, purchasing, production, selling, general, and administrative expenses • Cash inflows/outflows • Ends with complete financial reports: income statement & balance sheet, cash flow statement, stockholders equity.

  3. Sales Budget General and Administrative Expense Budget Cash Budget Purchases Budget Special Budgets Typical Process for a Merchandiser Selling Expense Budget Pro Forma Statements Income Statement & Balance Sheet

  4. Sales Budget • Sales plan is the starting point for the budgeting process • Includes a forecast of sales revenue • Normally includes a forecast of unit sales • The best available information is used to forecast sales: • Market conditions in sales territories by period • Merchandise lines available • Promotion and advertising plans • Expected pricing policies (markups)

  5. Sales Budget Example Budgeted revenue for June is $90,000. BC Carts sells children’s carts to retailers. For June, estimated sales are 9,000 carts at a selling price of $10 each with an estimated cost of $4 per cart.

  6. Purchases Budget • Indicates the merchandise to be purchased to meet sales needs and ending inventory requirements • Considers • Budgeted sales • Desired ending inventory • Planned beginning inventory

  7. Purchases Budget Example Sales for July: 9,000 + (9,000 × 0.10) = 9,900 carts Ending inventory = 9,900 × 0.20 = 1,980 carts Number of units times the cost per unit of $4 BC Carts desires to have 20% of the carts needed for the next month’s sales in stock at the end of each month. At the beginning of June, 1,800 carts are on hand. Each cart costs $4. Sales are planned to increase 10% per month.

  8. Selling Expense • Presents the expenses the organization plans to incur in connection with sales and distribution • Costs are broken into variable and fixed costs • Variable selling costs • Developed as a percent of sales or an amount per unit sold • Fixed selling costs • Often based on an estimate obtained from the sales manager

  9. Selling Expense Budget Example Commissions: $90,000 × 0.04 = $3,600 Miscellaneous: $90,000 × 0.015 = $1,350 BC Carts estimates commissions at 4% of sales and miscellaneous variable costs at 1.5%. Estimated fixed selling costs are $3,500 for depreciation, $2,000 for advertising, and $1,200 for miscellaneous costs.

  10. General and Administrative Expense Budget • Presents the expenses planned in connection with the general administration of the organization • Example expenses: • Compensation • Insurance • Depreciation • Utilities • Miscellaneous

  11. General and Administrative Expense Budget Example BC Carts estimates the following monthly general and administrative costs: $5,000 for salaries, $800 for insurance, $1,100 for depreciation, $600 for utilities, and $900 for miscellaneous.

  12. Cash Budget • Summarizes all cash receipts and disbursements expected to occur during the budget period • Because of issues related to the timing of sales and collections on account • Collections on sales do not equal sales revenue • Because of issues related to the timing of payments for purchases and other expense items • Disbursements do not equal expenses

  13. Cash Receipts Budget Example 40% Cash Sales 30% Collected current month Sales 60% Credit Sales 70% Collected following month CASH RECEIPTS BUDGET FOR JUNE, 2012 $90,000 × 0.40 $90,000 × 0.60 × 0.30 = $16,200 $86,000 × 0.60 × 0.70 = $36,120 BC Carts budgeted its June sales at $90,000. It estimates that 40% of sales are cash and 60% are on credit. 30% of credit sales are collected in the month of sale and 70% are collected in the following month. Beginning cash balance is $15,000 and sales during May were $86,000.

  14. Cash Disbursements Budget Example Inventory purchases section of the cash disbursements section of the cash budget: CASH DISBURSEMENTS BUDGET FOR JUNE, 2012 $36,720 × 0.25 = $9,180 $32,000 × 0.75 = $24,000 BC Carts estimates that 25% of its current month inventory purchases will be paid during the month incurred and 75% are paid in the following month. During May, purchases were $32,000. Budgeted purchases for June are $36,720 (from the purchases budget.) Continued

  15. Cash Disbursements Budget Example continued CASH DISBURSEMENTS BUDGET FOR JUNE, 2012 0.60 × ($8,400 – $1,100) = $4,380 BC Carts’ general and administrative costs were $8,200 during May, and $8,400 during June, $1,100 of each which is depreciation. Income taxes were $15,500 during May. The company pays for selling costs in the month incurred, and 60% of the general and administrative costs in the month incurred with the remaining 40% the following month. Income taxes are taxed at 30% of income before taxes and are paid the month following accrual. 0.40 × ($8,200 – $1,100) = $2,840

  16. Financing Section of Cash Budget CASH DISBURSEMENTS BUDGET FOR JUNE, 2012 $25,000 × 0.06 × 1/2 BC Carts’ repays $5,000 of the principal on its bank loan on June 30 and December 31, and any accrued interest.

  17. Budgeted Financial Statements Pro forma income statement and balance sheet that reflect the “as-if” effects of the budgeted activities on the actual financial position of organization Reflect the results if all budgetary projections are correct If income not good enough for top management, then start process again

  18. Production Budget • Additional steps are required to develop master budgets for manufacturing organizations • Due to conversion of raw materials into finished goods • Must determine production volume • To support sales • To meet finished goods inventory

  19. Production Budget Example 0.20 × 9,900 (July sales) 0.20 × 9,000 (June sales) BC Carts produces plastic carts and has estimated sales of 9,000 carts for June and 9,900 for July. BC wants to have 10% of the materials needed for the next month’s production and 20% of the carts needed for the next month’s sales in stock at the end of each month.

  20. Purchases Budget Example 6 × 10,098 × 0.10 given Assume BC Carts plans to produce 10,098 carts in July. It wants to have 10% of the materials needed for the next month’s production in stock at the end of each month. Each cart requires 6 pounds of plastic resin and two wheels. At June 1, BC had 5,508 pounds of resin and 1,836 wheels on hand. Wheels cost $0.30 each and resin costs $0.21 per pound. Continued

  21. Manufacturing Cost Budget Example BC Carts have the following costs per unit:

  22. Approaches to Budgeting • Input-output: Planned sales volumes and required inputs • Incremental: Add an increment to past year • Example: Increase budgets by 3%. • Zero-based: Every $ justified starting at 0 for everything. • Activity-based: Project sales volume to activity and budget the $ based on activity cost • Rolling (continuous) example: each month, redo each of the next 12 monthly budgets

  23. Participation • Extent to which lower level personnel involved with the budget process: participative or bottom up approach • Alternative is top-down or imposed budgets • Both approaches require top management involvement • Since budgets used in performance measures, participation often results in budgetary slack: padding built in to expense or revenue estimates. • Slack can provide needed flexibility when situation has high uncertainty.

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