CHAPTER 23
Budgetary Planning
LEARNING OBJECTIVES
1. STATE THE ESSENTIALS OF EFFECTIVE BUDGETING
AND THE COMPONENTS OF THE MASTER BUDGET.
2. PREPARE BUDGETS FOR SALES, PRODUCTION, AND
DIRECT MATERIALS.
CHAPTER REVIEW
Budgeting Basics
1. (L.O. 1) A budget is a formal written statement of management’s plans for a specified time
period, expressed in financial terms.
Benefits of Budgeting
3. The primary benefits of budgeting are as follows:
Essentials of Effective Budgeting
4. In order to be effective management tools, budgets must be based upon
a. A sound organizational structure in which authority and responsibility are clearly defined.
5. The most common budget period is one year. A continuous twelve-month budget results from
dropping the month just ended and adding a future month. The annual budget is often
supplemented by monthly and quarterly budgets.
8. Long-range planning involves the selection of strategies to achieve long-term goals and the
development of policies and plans to implement the strategies. Long-range plans contain considerably
less detail than budgets.
The Master Budget
Sales, Production, and Direct Materials Budgets
11. (L.O. 2) The sales budget is the first budget prepared. It is derived from the sales forecast, and it
represents management’s best estimate of sales revenue for the budget period. It is prepared by
Direct Labor, Manufacturing Overhead, and Selling and Administrative Expense Budgets, and
Budgeted Income Statement
Cash Budget and Budgeted Balance Sheet
17. (L.O. 4) The cash budget shows anticipated cash flows. It contains three sections (cash
Budgeting in Nonmanufacturing Companies
19. (L.O. 5) The major differences in the master budget of a merchandiser and a manufacturer are
that a merchandiser (a) uses a merchandise purchases budget instead of a production budget
LECTURE OUTLINE
A. Budgeting Basics.
B. The Benefits of Budgeting.
1. It requires all levels of management to plan ahead and to formalize goals
on a recurring basis.
C. Essentials of Effective Budgeting.
1. The essentials of effective budgeting are (a) sound organizational
structure, (b) research and analysis, and (c) acceptance by all levels of
management.
D. Length of the Budget Period.
1. A budget may be prepared for any period of time. Various factors influence
the length of the budget period.
MANAGEMENT INSIGHT
A recent study found that fewer than 14% of businesses with fewer than 500
employees do an annual budget or have a written business plan. For many small
businesses the basic assumption is that, “As long as I sell as much as I can, and
keep my employees paid, I’m doing OK”.
Describe a situation in which a business “sells as much as it can” but cannot
“keep its employees paid.”
E. The Budgeting Process/Budgeting and Human Behavior.
1. The budget is developed within the framework of a sales forecast that
shows potential sales for the industry and the company’s expected share
of such sales. Sales forecasting involves a consideration of various factors:
a. General economic conditions.
2. The input of sales personnel and top management is essential to the
sales forecast.
F. Budgeting and Long-Range Planning.
1. Budgeting and long-range planning are not the same.
a. One important difference is the time period involved; long-range
planning usually encompasses a period of at least five years.
2. The primary objective of long-range planning is to develop the best
strategy to maximize the company’s performance over an extended
future period.
G. The Master Budget.
SERVICE COMPANY INSIGHT
Governments at all levels must submit budgets; most are required to submit
balanced budgets where revenues cover anticipated expenses. But, estimating
government revenues can be as difficult or even more difficult than estimating
company revenue.
Why is it important that government budgets accurately estimate future
revenues during economic downturns?
3. Production Budget: The production budget shows the units to produce to
meet anticipated sales.
MANAGEMENT INSIGHT
Some businesses faced a predicament recently due to the skyrocketing cost of
raw materials. Some managers decided to stockpile much larger quantities of
raw materials to avoid paying even higher prices in the future.
What are the potential downsides of stockpiling a huge amount of raw materials?
6. Manufacturing Overhead: The manufacturing overhead budget shows
the expected variable and fixed manufacturing overhead costs for the
budget period.
9. Cash Budget: The cash budget shows anticipated cash flows.
MANAGEMENT INSIGHT
Behind the grandeur of the Olympic Games lies a huge financial challenge—how
to keep budgeted costs in line with revenues. The 2006 Winter Olympics in Italy
narrowly avoided going into bankruptcy before the Games even started;
organizers shifted promotional responsibilities to an Italian state-run agency.
Why does it matter whether the Olympic Games exceed their budget?
H. Budgeting in Nonmanufacturing Companies.
1. Budgets are also used by:
2. The major differences between the master budgets of a merchandiser
and a manufacturer are that a merchandiser:
3. In service enterprises, such as a public accounting firm, a law office, or a
medical practice, the critical factor in budgeting is coordinating profes–
sional staff needs with anticipated services.
4. Budgeting is just as important for not-for-profit organizations as for profit-
oriented enterprises.
SERVICE COMPANY INSIGHT
All organizations need to stick to budgets. The most recent recession has created
budgeting challenges for nearly all governmental agencies. Even Princeton
University experienced a 25% drop in the value of its endowment when the
financial markets plunged. When the endowment fell the university had to make
cuts because the endowment supports 45% of the university’s budget.
Why would a university’s budgeted scholarships probably fall when the stock
market suffers a serious drop?
20 MINUTE QUIZ
Circle the correct answer.
True/False
1. Budgeting is the process of establishing company-wide objectives that serve as a deter-
rent to waste and inefficiency.
True False
2. The effectiveness of the budget program is directly related to its acceptance by all levels
of management.
True False
3. Budgeting always has the effect on human behavior of inspiring managers to higher
levels of performance.
True False
4. One disadvantage of budgeting is that it does not facilitate the coordination of activities
within a business.
True False
5. The sales budget is the first budget prepared and each of the other budgets depends on it.
True False
6. The quantities of direct materials in the direct materials budget are derived from the
formula: Desired Ending Direct Materials Units + Direct Materials Units Required for
Production – Beginning Direct Materials Units = Required Direct Materials Units to be
Purchased.
True False
7. The manufacturing overhead budget shows only the expected indirect labor costs for
the year.
True False
8. The budgeted income statement indicates the expected profitability of operations for the
next year and provides the basis for evaluating company performance.
True False
9. Long-range planning differs from budgeting in the time period involved, emphasis, and
the amount of detail presented.
True False
10. Budgeting is not used in not-for-profit organizations because it is not necessary for
these organizations to engage in profit planning.
True False
Multiple Choice
1. A formal written statement of management’s plans for a specified future time period,
expressed in financial terms is a(n)
a. accounting plan.
b. budget.
c. research analysis.
d. sales budget.
2. Which of the following is not a benefit of budgeting?
a. It reveals the prevailing business conditions.
b. It results in greater management awareness of the entity’s overall operations.
c. It creates an early warning system of potential problems.
d. It provides definite objectives for evaluating performance at each level of responsibility.
3. All of the following are financial budgets except the
a. budgeted balance sheet.
b. budgeted income statement.
c. capital expenditure budget.
d. cash budget.
4. The master budget includes all of the following except
a. Budgeted Income Statement.
b. Capital Expenditure Budget.
c. Cash Budget.
d. Indirect Labor Budget.
5. If required production units are 75,000, budgeted sales units are 65,000, required direct
materials purchases units are 3,000, and beginning finished goods units are 5,000, then
desired ending finished goods units would be
a. 2,000.
b. 5,000.
c. 12,000.
d. 15,000.
ANSWERS TO QUIZ
True/ False
Multiple Choice