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Ch 7 – Horngren et al 2014

Chapter 15:Tutorials

Introduction to Budgets
and Preparing the Master Budget
Presented by

Dr Noor Ajian Mohd Lair

Senior Lecturer
Mechaincal Engineering Program
Faculty of Engineering
Universiti Malaysia Sabah

Office No 43, 2nd floor

Ext: 3422 4-2
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email: [email protected]
 Example: Preparing Master Budget

SALES BUDGET
Cooking Hut Company (CHC) is a retailer of a world
wide variety of kitchen and dining room item, such
as coffeemakers, silverware, and table linens. CHC
sales budgets for the next 4 months as followed:
April $50,000
May 80,000
June 60,000
July 50,000
The Master Budget also requires information about
actual sales in the previous month. On average,
60% of sales are cash sales and the remaining 40%
are credit sales. Sales in March were $40,000 and
the $16,000 of account recievable on March 31
represent credit sales made in March (40% of
$40,000). Uncollectable accounts are negligible and
thus ignored. For simplicity, all taxes are ignored.
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 Example: Preparing Master Budget

PLANNED INVENTORY LEVELS

Because deliveries from suppliers and customer
demands are uncertain, at the end of each month
CHC wants to have on hand a base inventory of
$20,000 plus additional inventory equal to 80% of
the expected cost of goods sold for the following
month. The cost of goods sold averages 70% of
sales. Therefore, the inventory on March 31 is
$20,000+(.8X.7XApril sales of $50,000) =
$20,000+$28,000 = $48,000. On average, CHC
pays for 50% of each month’s purchase during the
month purchases and 50% during the next month.
Therefore, the accounts payable balance on March
31 is 50% of March purchases, or .5X$33,600 =
$16,800.
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 Example: Preparing Master Budget

WAGES ANDCOMMISIONS
CHC pays wages and commisions twice each month, with
payments lagged half a month after they are earned.
Each payment consists of two components: (i) one-half of
monthly fixed wages of $2,500. and (ii) commisions equal
to 15% of sales, which we assume are uniform
throughout each month. To illustrate the wage and
commisions payments, the March 31 balance of accured
wages and commisions payable is (.5X$2,500) +
(.5X(.15X$40,000) = $1,250+$3,000 = $4,250. Because
of the half month lag, CHC will pay this $4,250 balance on
April 15.
CAPITAL AND OPERATING EXPENDITURES
CHC planned to purchase new fixtures for $3,000 cash in
April. The operating expenses as follows:
Misc Expenses 5% of sales, paid as incurred
Rent $2,000 paid as incurred
Insurance $200© expiration
Copyright per month
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 Example: Preparing Master Budget

BALANCE SHEET MARCH 31, 20X1 (page 296).

Assets
Current assets
Cash $10,000
Account receivable 16,000
Merchandise invnetory 48,000
Unexpired Insurance (april-Dec) 1,800 $75,800
Plant assets
Equiptment, fixtures, and others $37,000
Accumulated depretiation 12,000 24,000
Total Assets $100,000
Liability and Owner’s Equity
Current liabilities
Account Payables $16,800
Accured wages and commision payable 4,250 $21,050
Owners’ Equity 78,950
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Total Liabilities and owners’ equity $100,000
 Example: Preparing Master Budget

CASH BALANCES
To meet cash needs, CHC uses short term loans from local
banks, ying them back when excess cash available. CHC
maintains a minimum $10,000 cash balance at the end of
each month for operating purposes and can borrow or
repay loans only in multiple of $1,000. Assume that
borrowing occurs at the begining and repayments occur
at the end of the month. Also assume that interest of 1%
per month is paid in cash at the end of each month.
QUESTIONS: Using the information given, prepare master
budget for CHC.

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 Example: Preparing Master Budget
STEP 1: Preparing basic data (page 299)
Step 1A: Schedule of Sales Budget
March April May June April-June Total
Total Sales $40,000 $50,000 $80,000 $60,000 $190,000

Step 1B: Schedule of Cash collections from customers

April May June
Cash Sales (60% current) $30,000 $40,000 $36,000
Collection of last month sales
(40% previous) 16,000 20,000 32,000
Total Collections $46,000 $68,000 $68,000

Step 1C: Purchase budget

Budgeted cost of goods sold = cost of merchandise sold % (70%) X budgeted
sales
March April May June April-June Total
Budgeted cost of goods
sold $35,000 $56,000 $42,000 $133,000
Plus: Desired ending
inventory 64,000 53,000 48,000
Total Merchan Needed $99,000 $109,000 $90,000
Less: Begin Inventory 48,000 64,000 53,000
Purchases $33,000 Copyright
$51,000 $44,000
© 2014 $36,400
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 Example: Preparing Master Budget

Step 1D: Disbursements for Purchases

Disburcements are 50% of the current month’s purchase and 50% of
previous month’s.
April May June
50% last month purch $16,800 $25,900 $22,400
Plus: 50% this month 25,900 22,400 18,200
Disbursement for Purch $42,700 $48,300 $40,600

Step 1E: Operating Expense Budget

March April May June April-June Total
Wages(fixed) $2,500 $2,500 $2,500 $2,500
Commision (15% sales) 6,000 7,500 12,000 9,000
Total Wages &Com $8,500 $10,000 $14,500 $11,500 $36,000
Misc expanse (5% sales) 2,500 4,000 3,000 9,500
Rent (fixed) 2,000 2,000 2,000 6,000
Insurance (fixed) 200 200 200 600
Depretiation (fixed) 500 500 500 1,500
Total Opr Expenses $15,200 $21,200 $17,200 $53,600

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 Example: Preparing Master Budget
Step 1F: Disbursement for Operating Expenses
April May June
Wages and commisions
50% last month’s $4,250 $5,000 $7,250
50% this month’s 5,000 7,250 5,750
Total Wages &Comm $9,250 $12,250 $13,000
Misc Expenses 2,500 4,000 3,000
Rent 2,000 2,000 2,000
Total Disbur $13,750 $18,250 $18,000

Step 2: Preparing the Operating Budget

BUDGETED INCOME STATEMENT FOR CHC FOR THREE MONTH ENDING JUNE
30, 20X1
Data Source of Data
Sales $190,000 sch a
Cost of Goods sold 133,000 sch c
Gross Margin $57,000
Operating Expenses:
Wages & Comm $36,000 Sch e
Rent 6,000 Sch e
Misc 9,500 sch e
Insurance 600 sch e
Depretiation 1,500 53,600 sch e
Income from operation $3,400
Interest Expenses Copyright © 2014 Pearson Education410 cash budg 4 - 10
 Example: Preparing Master Budget

Step 3: Preparing the Financial Budget

Step 3A: Capital Budget
$3,000 purchase new fixtures
Step 3B: Cash Budget
CHC CASH BUDGET FOR THREE MONTH ENDING JUNE 30, 20X1.
April May June
Begining Cash $10,000 $10,410 $10,720
Min Cash balance desired 10,000 10,000 10,000
Available cash bal(x) $ 0 $ 410 $ 720
Cash reciepts and disbursement:
Collection from customers (sch b) $46,000 $68,000 $68,000
payments for mercha (sch d) (42,000) (48,300) (40,600)
Payments frm opr expenses (sch f) (13,750) (18,250) (18,000)
Purchase new fixtures (3,000)
Net cash reciepts and Disbur (y) $(13,450) $1,450 $9,400
Excess of cash b4 financing (x+y) $(13,450) $1,860 $10,120
Borrowing 14,000
Repayments $(1,000) $(9,000)
Interest Payment (140) (140) (140)
Total Cash from financiang (z) $13,860 $(1,140) $(9,130)
Ending Cash balance (begin+y+z) $10,410 $10,720 $10,990
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 Example: Preparing Master Budget

Step 3C: Budgeted Balance Sheet

THE CHC BUDGETED BALANCE SHEET JUNE 30,20X1
Assets
Current Asset
Cash $10,990
Account recievable net 24,000
Inventory (sch c) 48,000
Unexpired insurance (july –dec) 1,200 $84,190
Plant Assets
Equiptment, fixtures, and other $40,000
Accumulated Depretiation (14,300) 25,700
Total Assets $109,890

Libilities and Owner Equity_____________________________________

Current libitities
Account payable $18,200
Short term bank loan 4,000
Accured wages & comm 5,750 $27,950
Owner Equity 81,940
Total liabilities and Owner’s equity $109,890
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 Ch 12 – Horngren et al 2014

Chapter 16: Tutorials

Cost Allocation

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General Framework for Cost Allocation

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 Service Department Example

University
computer department
serves two major users:

School of Business School of Engineering

Allocate the cost of a 5-year

lease on computer mainframe

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 Service Department Example

Suppose there are two major

purposes for the allocation:

Motivating
Predicting departments
economic and individuals
effects of the to use its
use of the capabilities
computer more fully

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 Service Department Example

The primary activity performed

is computer processing.

Resources consumed:
The budget formula for
1. Processing time
the forthcoming year
2. Operator time
is $100,000 monthly
3. Consulting time
fixed cost plus $200
4. Energy
variable cost per hour
5. Materials
of computer time used.
6. Building space

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 Variable-Cost Pool

Variable costs should be allocated as follows:

Cost-allocation rate per hour × Actual hours of
computer time used

Consider the allocation of variable costs to a

department that uses 500 hours of computer time.

500 hours × $200 = $100,000

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 Fixed-Cost Pool
Allocation of fixed costs will be based on the
long-run capacity available to the user, regardless
of actual Usage from month to month.
Suppose the deans had originally predicted the
long-run average monthly usage as follows:

School of Business: School of Engineering:

210 hours 490 hours

How is the fixed-cost pool allocated?

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 Example: Allocation Methods
Processing Facility:
Service Department Allocation

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 1. Direct Methods

The direct method ignores other service

departments when any given service
department’s costs are allocated
to the producing departments.

Facilities management cost = $1,260,000

The direct method allocates these costs to the

processing and assembly departments based
on the relative square footage occupied by
each of the two departments.

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 1. Direct Methods

The direct method allocates these costs to

the processing and assembly departments
based on the relative square footage
occupied by each of the two departments.

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 1. Direct Methods

The direct method allocates human resources

department costs to the producing departments
on the basis of the relative number of
employees in the producing departments.

Human Resources costs = $48,000

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 2. Step-Down Methods

The step-down method recognizes

that some service departments
support the activities in other
service departments as well as
those in production departments.

To apply the step-down

method, choose the sequence
in which to allocate service
department costs.
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 2. Step-Down Method

Allocate facilities management department

costs then allocate human resources cost.

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 Allocation of Service
Department Costs

Costs not related to cost drivers?

Identify multiple cost pools, each with

its own cost-allocation base. Divide
facilities management costs into two or
more cost pools. Use a different cost-
allocation base to allocate costs in each
pool via the direct or step-down method.

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 Allocation of Service
Department Costs

Allocate all costs by the direct or

step-down method using square
footage as the cost allocation base.

Direct Versus Step-Down Method

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 Learning
Objective 4 Traditional Approach

1. Divide the costs in each

producing department.

Direct costs Indirect costs

2. Assign direct costs to the appropriate

products, services, or customers.

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 Traditional Approach

3. Select one or more cost pools and related

cost drivers in each production department.

Indirect departmental costs

Cost Cost Cost

pool pool pool

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 Traditional Approach

4. Allocate costs

Costs

Product Product Product

A B C

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Traditional Approach and Step-Down Method

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 Activity-Based Costing (ABC)

1. Determine the key components of the system

and the relationships among them.
2. Collect relevant data concerning costs and the
1. physical flow of the cost-allocation base units
2. among resources and activities.

3. Calculate and interpret the new ABC

1. information.

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Activity-Based Costing

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Learning
Objective 7 Allocation of Joint Costs

Two conventional ways of allocating

joint costs to products are widely used:
Physical Units and Relative Sales Values

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 1. Physical-Units Method

Dow Chemical produces two chemicals, X and Y. Joint

cost is $100,000. X sells for $.09 per liter and Y for $.06.

Two-thirds of the liters produced are chemical X; allocate

two-thirds of the joint cost to X. One-third of the liters are
chemical Y; allocate one-third of the cost to Y.

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 2. Relative-Sales-Value Method

If a common physical unit is lacking, many

companies use the relative-sales-value
method for allocating joint costs.

Weighting is based on the sales values of

the individual products at the split-off point.

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THE END

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