BUDGETS

Chapter 11
Management Accounting, 6th edition, Seal
 Learning Outcomes
1. Understand why organisations budget and the processes they use to create
budgets

2. Explain the purposes, including planning, communication, coordination,

motivation, authorization, control of evaluation and how these may conflict

3. Prepare a sales budget

4. Prepare a production budget

5. Prepare a direct materials budget

 Learning Outcomes
6. Prepare a direct labour budget

7. Prepare a manufacturing overhead budget

8. Prepare a closing inventory budget

9. Prepare a selling and administrative budget

10. Consider some criticism of budgeting as a performance management system

Thandi has been running her business of selling food
for a while now

She realizes the importance of attending lectures…

 Pg 435 - 443

Understand why organisations

Budgets budget and the processes they

use to create budgets

Pg 435
What is a budget?

A detailed plan for the acquisition

an use of financial and other
resources over a specified time
period.
Pg 435
What is a master budget?

Represents a comprehensive
expression of management’s plans
for the future and how these plans
are to be accomplished
Pg 436 Basic framework for budgeting
Detail
Budget

Materials
Detail
Budget

Production
Detail
Budget

Master

Sales
Budget

Summary of
a company’s
plans.
 Planning and Control
Pg 436

PLANNING CONTROL

Involves developing Involves the steps

objectives and taken by
preparing various management that
budgets to achieve attempt to ensure
these objectives the objectives are
attained
 Advantages of budgeting
Pg 436

1.Define Goals and objectives

2.Think about and plan for the future
3.Means of allocating resources
4.Uncover potential bottlenecks
5.Coordinate activities
6.Communicating plans
 Master budget
Pg 441

Sales
Budget

Selling and
Administrative
Budget
 Master budget
Pg 441

Sales
Budget

Ending Selling and

inventory Production Administrative
Budget Budget Budget

Direct Direct Manufacturing

Materials Labour Overhead
Budget Budget Budget
 Master budget
Pg 441

Sales
Budget

Ending Selling and

Production
inventory Administrative
Budget
Budget Budget

Direct Direct Manufacturing

Materials Labour Overhead
Budget Budget Budget

Cash
Budget

Budgeted Financial Statements

 Pg 443 - 444

Budgets Prepare a sales budget

 SALES BUDGET

The sales budget is the

starting point in preparing
the master budget, a
detailed schedule showing
expected sales for the
coming periods expressed
in units and Rands

Thandi has attended a lecture on the theory and importance of budgeting. She has decided
that it is time for her to start the budgeting process.
 Preparing a sales budget
Pg 443 - 444

Thandi has budgeted for the following sales for the

next five months:

April 20 000 plates

May 50 000 plates
June 30 000 plates
July 25 000 plates
August 15 000 units

Thandi has set her sales price at R10 per plate

 Preparing a sales budget
Pg 443 - 444

April May June Quarter

Budgeted
sales (units) 20,000 50,000 30,000 100,000
Selling price
per unit
Total sales
 Preparing a sales budget
Pg 443 - 444

April May June Quarter

Budgeted
sales (units) 20 000 50 000 30 000 100 000
Selling price
per unit 10 10 10 10
Total sales 200 000 500 000 300 000 1 000 000
 Pg 444 - 446

Budgets Prepare a production budget

 Production budget
Pg 444 - 446

Sales Production
Budget Budget

d
e te
pl
C om

Production must be adequate to meet budgeted

sales and provide for sufficient ending inventory.
 Preparing a production budget
Pg 444 - 446

Thandi wants ending inventory to be equal to 20%

of the following month’s budgeted sales.

She had 4 000 opening inventory on hand.

 Preparing a production budget
Pg 444 - 446

April May June Quarter

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000
Total needed 30,000
Less beginning
inventory 4,000
Required production 26,000 Budgeted sales 50,000
Desired per cent 20%
Desired inventory 10,000
 Preparing a production budget
Pg 444 - 446

April May June Quarter

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000
Total needed 30,000
Less beginning
inventory 4,000
Required production 26,000

March 31
ending inventory
 Preparing a production budget
Pg 444 - 446

April May June Quarter

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000 6,000
Total needed 30,000 56,000
Less beginning
inventory 4,000
Required production 26,000
 Preparing a production budget
Pg 444 - 446

April May June Quarter

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000 6,000
Total needed 30,000 56,000
Less beginning
inventory 4,000 10,000
Required production 26,000 46,000
 Preparing a production budget
Pg 444 - 446

April May June Quarter

Budgeted sales 20,000 50,000 30,000 100,000
Add desired ending
inventory 10,000 6,000 5,000 5,000
Total needed 30,000 56,000 35,000 105,000
Less beginning
inventory 4,000 10,000 6,000 4,000
Required production 26,000 46,000 29,000 101,000
 Expected cash collections

Thandi can now look at

collection patterns to
determine what her cash
collections from customer
will be.

Thandi has now prepared her sales and production budget.

 Cash collections
Pg 444 - 446

• All sales are on account.

• Thabdi’s collection pattern is:
70% collected in the month of sale,
25% collected in the month following sale,
5% is uncollectible.
• The March 31 accounts receivable balance of
R30 000 will be collected in full.
 Expected cash collection
Pg 444 - 446

April May June Quarter

Accounts rec. - 3/31 30 000 30 000

Total cash collections

 Expected cash collection
Pg 444 - 446

April May June Quarter

Accounts rec. - 3/31 30 000 30 000
April sales
70% x R200,000 140 000 140 000
25% x R200,000 50 000 50 000

Total cash collections 170 000

 Expected cash collection
Pg 444 - 446

April May June Quarter

Accounts rec. - 3/31 30 000 30 000
April sales
70% x R200,000 140 000 140 000
25% x R200,000 50 000 50 000
May sales
70% x R500,000 350 000 350 000
25% x R500,000 125 000 125 000

Total cash collections 170 000 400 000

 Expected cash collection
Pg 444 - 446

April May June Quarter

Accounts rec. - 3/31 30 000 30 000
April sales
70% x R200,000 140 000 140 000
25% x R200,000 50 000 50 000
May sales
70% x R500,000 350 000 350 000
25% x R500,000 125 000 125 000
June sales
70% x R300,000 210 000 210 000
Total cash collections 170 000 400 000 335 000 905 000
 Pg 446 - 447

Budgets Prepare a direct material budget

 DIRECT MATERIAL BUDGET

The direct materials budget

details the raw materials
that must be purchased to
fulfil the production budget
and to provide for adequate
inventories.

Thandi has now determined what her sales income will be, as well as what her production
needs are. She is now able to budget for the raw materials that she needs to fulfill her
production needs
 Preparing a direct material budget
Pg 446 - 447

Thandi needs 5kg of raw materials per one plat of

food.

She would like to have material on hand at the end

of each month, equal to 10% of the following
months production.

On 31 March, 13 000kg of materials are on hand.

Materials cost R0.40 per kg.
 Preparing a direct materials budget
Pg 446 - 447

April May June Quarter

Production 26.000 46.000 29.000 101.000
Materials per unit
Production needs
Add desired ending
inventory
Total needed
Less beginning
inventory
Materials to be
purchased

From production
budget
 Preparing a direct materials budget
Pg 446 - 447

April May June Quarter

Production 26.000 46.000 29.000 101.000
Materials per unit 5 5 5 5
Production needs 130.000 230.000 145.000 505.000
Add desired ending
inventory
Total needed
Less beginning
inventory
Materials to be
purchased
 Preparing a direct materials budget
Pg 446 - 447

April May June Quarter

Production 26.000 46.000 29.000 101.000
Materials per unit 5 5 5 5
Production needs 130.000 230.000 145.000 505.000
Add desired ending
inventory 23.000
Total needed 153.000
Less beginning
inventory
Materials to be
purchased

10% of the following

month’s production
 Preparing a direct materials budget
Pg 446 - 447

April May June Quarter

Production 26,000 46,000 29,000 101,000
Materials per unit 5 5 5 5
Production needs 130,000 230,000 145,000 505,000
Add desired
ending inventory 23,000
Total needed 153,000
Less beginning
inventory 13,000
Materials to be
purchased 140,000

March 31
inventory
 Preparing a direct materials budget
Pg 446 - 447

April May June Quarter

Production 26.000 46.000 29.000 101.000
Materials per unit 5 5 5 5
Production needs 130.000 230.000 145.000 505.000
Add desired ending
inventory 23.000 14.500 11.500 11.500
Total needed 153.000 244.500 156.500 516.500
Less beginning
inventory 13.000 23.000 14.500 13.000
Materials to be
purchased 140.000 221.500 142.000 503.500
 Preparing a direct materials budget
Pg 446 - 447

April May June Quarter

Production 26.000 46.000 29.000 101.000
Materials per unit 5 5 5 5
Production needs 130.000 230.000 145.000 505.000
Add desired ending
inventory 23.000 14.500 11.500 11.500
Total needed July Production
153.000
and Stock244.500 156.500 516.500
Less beginning
Sales in units 25,000
inventory 13.000
Add desired ending inventory 23.000
3,000 14.500 13.000
Materials to be
Total units needed 28,000
purchased 140.000 221.500 142.000 503.500
Less beginning inventory 5,000
Production in units 23,000
Pounds per unit 5
Total pounds 115,000
Desired percent 10%
Desired ending inventory 11,500
Expected cash disbursements for materials

Thandi can now look at

payment patterns to
determine what her cash
payments to suppliers will
be.
 Cash disbursements for materials
Pg 446 - 447

• Thandi pays R0.40 per kilogram, for its materials.

• One-half of a month’s purchases are paid for in the

month of purchase; the other half is paid in the
following month.

• The March 31 accounts payable balance is R12 000.

Let’s calculate expected cash disbursements.
 Cash disbursements for materials
Pg 446 - 447

April May June Quarter

Accounts pay. 3/31 12 000 12 000
April purchases

May purchases

June purchases

Total cash
disbursements
 Cash disbursements for materials
Pg 446 - 447

April May June Quarter

Accounts pay. 3/31 12 000 12 000
April purchases
50% x R56,000 28 000 28 000
50% x R56,000 28 000 28 000
May purchases

June purchases

Total cash
disbursements 40 000

140,000kgs × R.040/kg =
R56,000
 Cash disbursements for materials
Pg 446 - 447

April May June Quarter

Accounts pay. 3/31 12 000 12 000
April purchases
50% x R56,000 28 000 28 000
50% x R56,000 28 000 28 000
May purchases
50% x R88,600 44 300 44 300
50% x R88,600 44 300 44 300
June purchases

Total cash
disbursements 40 000 72 300
 Cash disbursements for materials
Pg 446 - 447

April May June Quarter

Accounts pay. 3/31 12 000 12 000
April purchases
50% x R56,000 28 000 28 000
50% x R56,000 28 000 28 000
May purchases
50% x R88,600 44 300 44 300
50% x R88,600 44 300 44 300
June purchases
50% x R56,800 28 400 28 400
Total cash
disbursements 40 000 72 300 72 700 185 000
 Pg 447 - 448

Prepare a direct labour

Budgets
budget
 DIRECT LABOUR BUDGET

The direct labour budget is

also developed from the
production budget.

Direct labour requirements must be computed so that the company will know whether
sufficient labour time is available to meet production needs.
 Preparing a direct labour
Pg 447 - 448 budget
Each one of Thandi’s plates of food required 0.05
hours of direct labour.

Thandi has a‘no layoff’policy so all employees will

be paid for 40 hours of work each week.
In exchange for the‘no layoff’policy, workers
agreed to a wage rate of R10 per hour regardless
of the hours worked (no overtime pay).

For the next three months, the direct labour

workforce will be paid for a minimum of 1 500
hours per month
 Preparing a direct labour
Pg 447 - 448 budget
April May June Quarter
Production 26,000 46,000 29,000 101,000
Direct labour hours
Labour hours required
Guaranteed labour hours
Labour hours paid
Wage rate
Total direct labour cost
From
production
budget
 Preparing a direct labour
Pg 447 - 448 budget

April May June Quarter

Production 26,000 46,000 29,000 101,000
Direct labour hours 0.05 0.05 0.05 0.05
Labour hours required 1,300 2,300 1,450 5,050
Guaranteed labour hours
Labour hours paid
Wage rate
 Preparing a direct labourbudget
Pg 447 - 448

April May June Quarter

Production 26,000 46,000 29,000 101,000
Direct labour hours 0.05 0.05 0.05 0.05
Labour hours required 1,300 2,300 1,450 5,050
Guaranteed labour hours 1,500 1,500 1,500
Labour hours paid 1,500 2,300 1,500 5,300
Wage rate
Total direct labour cost

Higher of labour hours required

or labour hours guaranteed.
 Preparing a direct labour
Pg 447 - 448 budget

April May June Quarter

Production 26 000 46 000 29 000 101 000
Direct labour hours 0.05 0.05 0.05 0.05
Labour hours required 1 300 2 300 1 450 5 050
Guaranteed labour hours 1 500 1 500 1 500
Labour hours paid 1 500 2 300 1 500 5 300
Wage rate 10 10 10 10
 Pg 448 - 449

Prepare a manufacturing

Budgets overhead

budget
MANUFACTURING OVERHEAD BUDGET

The manufacturing
overhead budget provides a
schedule of all costs of
production other than
direct materials and direct
labour.
 Preparing a manufacturing
Pg 448 - 449 overhead budget
Manufacturing Thandi uses a variable manufacturing overhead
Overheads rate of R1 per unit produced.

Fixed manufacturing overhead is R50 000 per

month and includes R20 000 of non-cash costs
(primarily depreciation of plant assets).

Let’s prepare the manufacturing overhead budget.

 Preparing a manufacturing
Pg 448 - 449 overhead budget
April May June Quarter
Production in units 26 000 46 000 29 000 101 000
Variable mfg. OH rate 1 1 1 1
Variable mfg. OH costs 26 000 46 000 29 000 101 000
Fixed mfg. OH costs
Total mfg. OH costs
Less noncash costs
Cash disbursements for
manufacturing OH From production
budget
 Preparing a manufacturing
Pg 448 - 449 overhead budget
April May June Quarter
Production in units 26 000 46 000 29 000 101 000
Variable mfg. OH rate 1 1 1 1
Variable mfg. OH costs 26 000 46 000 29 000 101 000
Fixed mfg. OH costs 50 000 50 000 50 000 150 000
Total mfg. OH costs 76 000 96 000 79 000 251 000
Less noncash costs
Cash disbursements for
manufacturing OH
 Preparing a manufacturing
Pg 448 - 449 overhead budget
April May June Quarter
Production in units 26 000 46 000 29 000 101 000
Variable mfg. OH rate 1 1 1 1
Variable mfg. OH costs 26 000 46 000 29 000 101 000
Fixed mfg. OH costs 50 000 50 000 50 000 150 000
Total mfg. OH costs 76 000 96 000 79 000 251 000
Less noncash costs 20 000 20 000 20 000 60 000
Cash disbursements for
manufacturing OH 56 000 76 000 59 000 191 000

Depreciation is a non-cash charge.

 Pg 450

Prepare a ending finished goods

Budgets
inventory budget
 ENDING FINISHED GOODS INVENTORY BUDGET

To determine cost of goods

sold on the budgeted
statement of profit or loss.
.

To know what amount to put on the statement of financial position inventory account for
unsold units
 Preparing ending finished goods
Pg 450 inventory budget
Thandi can now complete her ending finished
goods inventory budget.

Thandi applies manufacturing overheads to units of

product on the basis of direct labour hours.

Let’s calculate ending finished goods inventory.

 Preparing ending finished goods
Pg 450 inventory budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 kgs. 0.40 2.00
Direct labour
Manufacturing overhead

Budgeted finished goods inventory

Ending inventory in units
Unit product cost
Ending finished goods inventory
Direct materials
budget and information
 Preparing ending finished goods
Pg 450 inventory budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 kgs. 0.40 2.00
Direct labour 0.05 hrs. 10.00 0.50
Manufacturing overhead

Budgeted finished goods inventory

Ending inventory in units
Unit product cost
Ending finished goods inventory

Direct labour
budget
 Preparing ending finished goods
Pg 450 inventory budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 kgs. 0.40 2.00
Direct labour 0.05 hrs. 10.00 0.50
Manufacturing overhead 0.05 hrs. 49.70 2.49
4.99
Budgeted finished goods inventory
Ending inventory in units
Unit product cost 4.99
Ending finished goods inventory

Total mfg. OH for quarter R251,000

= R49.70 per hr.*
Total labour hours required 5,050 hrs.

*rounded
 Preparing ending finished goods
Pg 450 inventory budget
Production costs per unit Quantity Cost Total
Direct materials 5.00 kgs. 0.40 2.00
Direct labour 0.05 hrs. 10.00 0.50
Manufacturing overhead 0.05 hrs. 49.70 2.49
4.99
Budgeted finished goods inventory
Ending inventory in units 5 000
Unit product cost 5
Ending finished goods inventory 24 950

Production
Budget
 Pg 450 - 451

Prepare a selling and

Budgets
administrative budget
 ENDING FINISHED GOODS INVENTORY BUDGET

The selling and administrative

expense budget lists the
budgeted expenses for areas
other than manufacturing.
.
.

Thandi realizes that she also need to budget for all her other expenses, not just product costs.
 Preparing a selling and
Pg 450 - 451 administrative budget
Thandi’s variable selling and administrative
expenses are R0.50 per unit sold.

Fixed selling and administrative expenses are R70

000 per month.

The fixed selling and administrative expenses

include R10 000 in costs – primarily depreciation –
that are not cash outflows of the current month.
 Preparing a selling and
Pg 450 - 451 administrative budget
April May June Quarter
Budgeted sales 20 000 50 000 30 000 100 000
Variable selling
and admin. rate 0.50 0.50 0.50 0.50
Variable expense £ 10 000 £ 25 000 £ 15 000 £ 50 000
Fixed selling and
admin. expense 70 000 70 000 70 000 210 000
Total expense 80 000 95 000 85 000 260 000
Less noncash
expenses
Cash disburse-
ments for
selling & admin.
 Preparing a selling and
Pg 450 - 451 administrative budget
April May June Quarter
Budgeted sales 20 000 50 000 30 000 100 000
Variable selling
and admin. rate 0.50 0.50 0.50 0.50
Variable expense 10 000 25 000 15 000 50 000
Fixed selling and
admin. expense 70 000 70 000 70 000 210 000
Total expense 80 000 95 000 85 000 260 000
Less noncash
expenses 10 000 10 000 10 000 30 000
Cash disburse-
ments for
selling & admin. 70 000 85 000 75 000 230 000
Criticisms of
budgeting
 BUDGETING
• Budgets produce a particular type of • It is mechanistic with rigid, formalized
constrained management style. and tightly coupled systems.
• They concentrate on easy to measure • It is too time consuming
events and they are too historically • It tends to focus on cost control rather
based. than value creation
• Budgets tend to be incrementalist • It tends to be top down
(marginal or incremental increases or • It encourages gaming and opportunism
decreases in particular departmental • It reinforces departmental barriers
budgets). • It hinders knowledge sharing
• Budgeting makes organizations inflexible • It makes people feel undervalued
and unable to respond to uncertainty.
The end