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Chapter 10 - Strategy and the Master Budget
10-56 (Continued-3)
2. What additional real-life refinements would you envision for the budgets you
prepared above in (1)? What additional budgets would you anticipate preparing for
the company were you in charge of the budget-preparation process?
a) As the person in charge of the budget-preparation process, one obvious
recommended change would be to report separately the number of new policies
written (the logical offset in Part b to the number of policy cancellations). Currently
b) In the example problem we assumed, for simplicity, that all policyholders paid
the same premium. Alternatively, we used an average premium rate per month per
c) The budget we created applied to those individuals whose policies covered the
calendar year, January through December. A fuller, more realistic analysis would
d) The cancellation rate, and growth rate in new underwritings, would probably be
monitored carefully since these are key drivers of future financial performers. That
e) The problem includes information regarding a mid-term policy cancellation rate
(i.e., policies cancelled before the annual renewal date).It would seem
f) The above calculations and budgets deal solely with forecasted volume (# of
policies) and premiums revenue ($). The output of the budgets we prepared
would then be used to prepare other budgets for the company. In this sense, and
similar to the extended example in the chapter, we say that the budgets articulate
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Chapter 10 - Strategy and the Master Budget
versus "complicated" claims, the average time to process a claim, the time
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available per day (month) for each claims handler, the % of submitted claims that
are paid, etc. would all be "drivers" that would be incorporated into the claims-
processing budget.
g) The budget as presented is static in nature and covers a fixed period of time.
For reasons discussed more fully in the chapter, the limitations of such budgets
can be addressed by generating "rolling forecasts."
3. The budgets you prepared above in (1) can be referred to as “driver-based
budgets.” List some of the pros and the cons of such budgets, relative to traditional
budgeting practices.
Pros
1. Driver-based budgeting (e.g., traditional activity-based budgeting (ABB) or
Time-Driven Activity-Based Budgeting) reduces the time to produce a
budget or to re-forecast.
2. Driver-based budgeting requires fewer iterations--that is, it reduces the "give
budgets.
3. Driver-based budgeting saves costs--for example, overtime payments
budget-preparation process can be reduced or eliminated. Managers are
"freed" to attend to more strategic imperatives.
non-financial information, which can be incorporate into the organization's
Balanced Scorecard (BSC).
6. Driver-based budgeting reduces risk exposure--if performance drivers are
appropriately defined and included in the budget, then management can
7. Driver-based budgeting may decrease the amount of "gaming behavior" on
Chapter 10 - Strategy and the Master Budget
10-56 (Continued-5)
Cons
1. Driver-based budgeting is perceived to be difficult to implement.
2. Driver-based budgets require a sophisticated information processing
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Chapter 10 - Strategy and the Master Budget
10-57 Budgets for a Service Firm (45-60 Minutes)
1. The annual cash budget is presented on the next page.
2. Operating problems that Triple-F Health Club could experience include:
The cash contribution from lessons and classes will decrease because the
projected wage increase for lesson and class employees is significantly greater
than the projected increases in revenues (i.e., in additional volume). Last year,
the cash generated from these operations was $39,000 ($234,000 – $195,000).
The 2018 projection is only $12,675 ($304,200 – $291,525).
Operating expenses are increasing faster than revenues from membership fees.
Last year (2017), cash generated from regular operations was $91,000
projected to increase 13%.
Triple-F Health Club seems to have a cash-management problem. The club does
not generate enough cash from operations to meet its obligations. It may not be
able to meet expenditures for day-to-day operations if the trend continues. To
avoid cash crises, the club should prepare monthly cash budgets to help cash
management.
Non-operational payments are projected to use up virtually all of the cash
generated from operations. Given the recent declines in mortgage interest rates,
management should consider refinancing this debt to reduce this cash drain.
3. Jane Crowe's concern with regard to the Board's expansion goals is justified. The
2018 budget projections show only a minimal increase in the cash balance (i.e., an
increase of only $2,757). The total cash available is well short of the $60,000 annual
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Chapter 10 - Strategy and the Master Budget
10-57 (continued)
TRIPLE-F HEALTH CLUB
Cash Budget
For the Year Ending October 31, 2018
Price
2017 Growth Increase 2018
Operating Cash Inflows:
Annual membership fees $355,000 3.0% 10.0% $402,215
Lesson and class fees 234,000 30.0% 304,200
Miscellaneous 2,00033.33% 2,667
Total Operating Cash Inflows $591,000 $709,082
Operating Cash Outflows:
Manager’s salary and benefits $36,000 15.0% $41,400
Employee wages and benefits:
Payoff of outstanding A/P N/A given 2,500
Total Operating Cash Outflows $461,000 $603,925
Net Operating Cash Flow $130,000 $105,157
Non-Operating Cash Outflows:
Payoff of equipment payable given $15,000
Mortgage principal given 30,000
Mortgage interest 32,4001
Planned equipment purchases given 25,000
Total Non-Operating Cash Outflow $102,400
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Chapter 10 - Strategy and the Master Budget
10-58 Budgeting and Sustainability (75 minutes)
Requirement 1: Short-Term Financial Analysis
For purposes of illustration (and for Requirement 3 below), the cell reference for
$13,125 (above) is G24; the cell reference for $60,000 (above) is G14.
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Chapter 10 - Strategy and the Master Budget
Cell references: $73,125 = cell G32 (=G23); $4,687.50 = cell G42 (=SUM(G37:G41));
$56,250.00 = cell G43.
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Chapter 10 - Strategy and the Master Budget
10-58 (Continued-1)
For requirement 3 (below), assume the following input data:
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Chapter 10 - Strategy and the Master Budget
10-58 (Continued-2)
Note: cell E10 contains the assumed monthly rate of cost decrease; cell G73
contains arithmetic difference between the cost of the fine and the net increase in
processing costs—other than materials cost, and after implementing Kaizen
budgeting. The value “0” in the above formulation essentially solves for the
breakeven level: that is, the rate of monthly cost savings needed to equate the
value of the fine and the increased processing costs due to the new compound, but
after implementing Kaizen. As shown below, Goal Seek provides the answer:
4.164% per month.
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Chapter 10 - Strategy and the Master Budget
10-58 (Continued-3)
b. The cost per pound for the new compound that would equate the anticipated fine with
the net year-one costs, assuming no Kaizen budgeting plan (i.e., no reduction per
month in processing costs):
Step One: Set Up the Cost Equation
Cost differential: anticipated fine and net one-year processing costs, with no Kaizen
budgeting plan = $13,125
Note: the above value is contained (in this example) in cell G99, which in turn is
defined as the contents from cell G24. G24 contains the difference between the
anticipated cost of the fine, $60,000 (entered in cell G14) and the expected increase
in material cost associated with the use of the new compound (G23), as shown
below:
Step Two: Run Goal Seek
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