CHAPTER 7
Introduction to Budgets and Preparing the Master Budget
COVERAGE OF LEARNING OBJECTIVES
LEARNING OBJECTIVE
FUNDA-
MENTAL
ASSIGNMENT
MATERIAL
CRITICAL
THINKING
EXERCISES
AND
EXERCISES
PROBLEMS
CASES,
EXCEL,
COLLAB. &
INTERNET
EXERCISES
LO1: Explain how budgets
facilitate planning and
coordination.
A1,B1
LO2: Anticipate possible
human relations problems
caused by budgets.
25
40
LO3: Explain potentially
dysfunctional incentives in
the budget process.
22
39, 40
LO4: Explain the
difficulties of sales
forecasting.
23
42
49
LO5: Explain the major
features and advantages of
a master budget.
A1,B1
24,26
39
LO6: Follow the principal
steps in preparing a master
budget.
A1,B1
29
40
43,45
LO7: Prepare the operating
budget and the supporting
schedules.
A1,B1
28,29,30,31
40
43,45,46,48
LO8: Prepare the financial
budget.
A1,B1
27,29,32,33,
34,35
36,37,38
43,44,47,48
LO9: Use a spreadsheet to
develop a budget (Appendix
7).
41,42
CHAPTER 7
Introduction to Budgets and Preparing the Master Budget
7-A1 (60-90 min.)
1. Exhibit I
GREATBUY ELECTRONICS STORE
Budgeted Income Statement
For the Three Months Ending August 31, 20X8
Sales $580,000
* See schedule g for calculation of interest.
Exhibit II
GREATBUY ELECTRONICS STORE
Cash Budget
For the Three Months Ending August 31, 20X8
June July August
Beginning cash balance $ 6,600 $ 4,600 $ 4,521
Exhibit III
GREATBUY ELECTRONICS STORE
Budgeted Balance Sheet
August 31, 20X8
Assets Liabilities and Stockholders’ Equity
Cash (Exhibit II) $ 4,981 Accounts payable $ 75,600
Accounts receivable* 154,700 Notes payable 10,000**
Merchandise inventory 75,600 Total current liabilities $ 85,600
June July August Total
Schedule a: Sales Budget
Credit sales (70%) $168,000 $119,000 $119,000 $406,000
Cash sales (30%) 72,000 51,000 51,000 174,000
Total sales (to Exhibit I) $240,000 $170,000 $170,000 $580,000
Schedule b: Cash Collections
June July August
Other required items related to purchases
Accounts payable, August 31, 20X8
(63% × September sales – to Exhibit III)
Schedule g: Borrowing, repayment, and interest calculations for bank loan
June July August
2. This is an example of the classic short-term, self-liquidating loan. The need for such a
loan often arises because of the seasonal nature of a business. The basic source of cash is
7-B1 (60-120 min.) $ refers to Australian dollars.
1. See Exhibits I, II, and III and supporting schedules a, b, c, d.
2. The cash budget and balance sheet clearly show the benefits of moving to just-in–
time purchasing (though the transition would rarely be accomplished as easily as this
Schedule a: Sales Budget January February March
Total sales (100% on credit) $378,000 $413,000 $273,000
December January February March
Exhibit I
FLYING FISH KITE
Cash Budget
For the Three Months Ending March 31, 20X2
January February March
Exhibit II
FLYING FISH KITE
Budgeted Income Statement
For the Three Months Ending March 31, 20X2
Exhibit III
FLYING FISH KITE
Budgeted Balance Sheet
March 31, 20X2
Assets
Current assets:
Cash (Exhibit I) $313,420
Accounts receivable* 370,300
7-1 Budgeting 1) provides an opportunity for managers to reevaluate existing activities
7-2 Budgeting is primarily attention directing because it helps managers to focus on
operating or financial problems early enough for effective planning or action.
7-3 Strategic planning covers no specific time period, is quite general, and often is not
7-4 Continuous budgets add a month (or quarter) in the future as the month (or quarter)
just ended is dropped. Therefore, the continuous budget provides a continually updated
7-5 If the measures used to reward employees in the performance evaluation system are
7-6 Lower-level managers bias their forecasts to create budgetary slack or padding.
Upper-level managers adjust for this bias in creating a revised budget. Therefore, lower-
7-7 A manager may make short-run decisions to increase profits that are not in the
profits.
7-8 First, by moving this year’s sales into next year or moving next year’s expenses into
7-9 Budgeted performance is better than past performance as a basis for judging current
7-10 Budgets are especially important in environments that are rapidly changing. They
7-11 No. When budgeting in done correctly, it is an important aid to managers. Managers
7-13 The sales forecast is influenced by past patterns of sales, estimates made by the sales
7-14 An operating budget is used as a guide for production and sales and it focuses on the
7-15 Operating expenses are costs charged to the income statement in a particular period.
Some operating expenses may be associated with the sales of the period, and others may be
7-16 A cash budget is an attempt to monitor and regulate the flow of cash in optimum
fashion.
7-17 Budgeting will be effective only if it is accepted by those managers who are
7-18 Both functional and activity-based master budgets begin with the forecasted demand
for products or services. However, whereas functional budgets then determine the inventory,
7-19 No. Financial planning models are mathematical statements of the relationships in
the organization among all the operating and financial activities and of other major internal
7-20 Setting up the master budget on a spreadsheet is time-consuming — the first time.
However, if it is done properly, with maximum flexibility, then the ease of subsequent use
7-21 Spreadsheets can be used to make a mathematical model of an organization. It may
7-22 Budgets that are used primarily for limiting spending provide incentives for “game
playing.” Accurate forecasts and estimates give way to strategies designed to avoid budget
7-23 Accurate sales forecasts are essential to budgeting. Sales personnel are often
“closest to the action” and therefore in the best position to make accurate forecasts. They are
7-24 The planning that comes through a good budget process is important to all segments
of an organization. Segments with both revenues and expenses can show a budgeted profit.
7-25 A key to employee acceptance of a budget is participation. Budgets created with the
active participation of all affected employees are generally more effective than budgets
1. a. Capital budget 2. Sales budget (or operating budget)
7-27 (10-15 min.)
Movie Mastery will be using cash until the beginning of 20X9, at which time cash receipts
7-28 (10-15 min.)
1.20 × Cost = $1,980,000
Cost = $1,650,000
2. Use the familiar identity, Beginning Inventory plus Purchases equals Cost of Goods
Sold plus Ending Inventory. To compute required purchases, compute the inventory
needed (Cost of Goods Sold plus Ending Inventory) and then subtract the amount
1. July collections include:
May sales billed June 5, .28 × .5 × $790,000 $110,600
3. Ending inventory, .60 × .25 × $990,000 $148,500
Merchandise needed for current month’s sales,
4. July August
Ending inventory, .60 × .25 × next month’s sales $141,000 $ 99,000
7-30 (15 min.) This exercise is straightforward and follows the chapter example closely.
All amounts are in dollars.
June July August
7-31 (15-25 min.) This problem is slightly more complex than 7-30. All amounts are in
thousands of Japanese yen.
January February March
Sales budget
7-32 (10-15 min.)
Collections from:
7-33 (15-20 min.) This is straightforward and closely follows the illustration in the
chapter. All amounts are in dollars. Some students need to be reminded that merchandise
inventories are carried at cost, not at selling prices.
GREEN LIGHTING SUPPLY
Purchases and Disbursements Budgets
7-34 (20-25 min.) This is straightforward and follows the illustration in the chapter
closely, except for requirement 1. All amounts are in euros.
2. LEIMERSHEIM GMBH
Purchases and Disbursements Budgets
June July August
Purchases budget
7-35 (20 min.) This is a straightforward exercise.
CARLSON COMPANY
Cash Budget
For the Month Ended June 30, 20X4
(in thousands)
7-36 (20-25 min.) The collections from March sales are a bit tricky. Note that the
receivable balance from March sales at March 31 is $450,000; therefore, four fifths of this
balance will be received in April (because 40/50 will be collected in April and 10/50 will be
collected in May).
MERRILL NEWS AND GIFTS
Budgeted Statement of Cash Receipts and Disbursements
For the Month Ending April 30, 20X7
Cash balance, March 31, 20X7 $ 100,000
Add receipts, collections from customers:
7-37 (40-60 min.)
HERBAL MAGIC COMPANY
Statement of Estimated Cash Receipts and Disbursements
For the Month Ended October 31, 20X7
Cash balance, October 1, 20X7 $ 5,000
From August sales $8,800 5% $ 440
From September sales $44,000 20% 8,800
From October sales $37,400 70% × 97% 25,395*
Total October collections $34,635
* Rounded to the nearest whole dollar.