PGBM01 - MBA Financial Management And Control (2015-16 Trm1 A)

1. PGBM01
Financial Management & Control
Lecture 7 Budgeting
By
Andy Turton.
andy.turton@sunderland.ac.uk
Senior Lecturer of Accounting & Finance
The University of Sunderland
School of Business & Law

2. Learning Objectives
 Explain how budgeting fits into the overall
framework of decision-making, planning and
control
 Describe the purposes and uses of budgets in
organisations
 Identify the various stages in the “traditional”
budgeting process
 Describe some of the benefits of effective
budgeting
 Construct cash budgets from relevant data

3. The Basic Framework of Budgeting
A budget is a detailed quantitative plan for acquiring
and using financial and other resources over a specified
forthcoming time period.
1. The act of preparing a budget is called
budgeting.
2. The use of budgets to control an
organization’s activity is known as
budgetary control.

4. Planning and Control
Planning –
involves developing
objectives and
preparing various
budgets to achieve
these objectives.
Control –
involves the steps
taken by
management that
attempt to ensure
the objectives are
attained.

5. Advantages of Budgeting
Advantages
Uncover potential
bottlenecks
Communicate
plans
Coordinate
activities
Define goals
and objectives
Think about and
plan for the future
Means of allocating
resources

6. Why do we produce budgets?
 To aid the planning of actual operations:
 by forcing managers to consider how conditions might
change and what steps should be taken now.
 by encouraging managers to consider problems before they
arise.
 To co-ordinate the activities of the organization:
 by compelling managers to examine relationships between
their own operation and those of other departments.
 To communicate plans to various responsibility centre
managers:
 everyone in the organization should have a clear
understanding of the part they are expected to play in
achieving the annual budget.
 by ensuring appropriate individuals are made accountable for
implementing the budget.

7. Why do we produce budgets?
 To motivate managers to strive to achieve the budget
goals:
 by focusing on participation
 by providing a challenge/target.
 To control activities:
 by comparison between actual and budgeted performance.
 To evaluate the performance of managers:
 by providing a means of informing managers of how well they
are performing in meeting targets they have previously set.

8. Choosing the Budget Period
Operating Budget
2012 2013 2014 2015
The annual operating budget
may be divided into quarterly
or monthly budgets.

9. Self-Imposed Budget
A participative budget is prepared with the full cooperation
and participation of managers at all levels. A participative
budget is also known as a self-imposed budget.
Supervisor Supervisor
Middle
Management
Supervisor Supervisor
Middle
Management
Top Management

10. Advantages of Self-Imposed
Budgets1. Individuals at all levels of the organization are viewed as
members of the team whose judgments are valued by top
management.
2. Budget estimates prepared by front-line managers are often
more accurate than estimates prepared by top managers.
3. Motivation is generally higher when individuals participate in
setting their own goals than when the goals are imposed from
above.
4. A manager who is not able to meet a budget imposed from
above can claim that it was unrealistic. Self-imposed budgets
eliminate this explanation.

11. Overview of the planning process
 Identify the objectives of the organization.
 Identify potential strategies.
 Evaluate alternative strategic options.
 Select course of action.
 Implement the long-term plan in the form of the
annual budget.
 Monitor actual results.
 Respond to divergencies from plan.

12. Stages in the budgeting process
 Communicate details of budget policy and
guidelines to those people responsible for
preparing the budget.
 Determine the factor that restricts output.
 Preparation of the sales budget.
 Initial preparation of other budgets.
 Negotiation of budgets with higher management.
 Co-ordination and review of budgets.
 Final acceptance of budgets.
 Ongoing review of the budgets.

13. The Master Budget: An Overview
Sales
budget
Budgeted
income
statement
Budgeted
balance
sheet
Selling and
administrative
expense budget
Ending
inventory
budget
Production
budget
Cash
budget
Direct
labor
budget
Direct
materials
budget
Manufacturing
overhead
budget

14. The Integrated Process
 Primary budget drives all others
 Planned increase in sales affects
 production
 purchases
 labour
 cost of overheads
 financing/cash

15. An Example - Scenario
L Co. manufactures 2 products - M and N
 M is manufactured in Department 1 and N in
Department 2
 The products consume 2 materials - A and B, and also
direct labour
 Details of standard costs and usage are given below:
Standard costs per unit:
Material A £5.20 per kilo
Material B £8.80 per kilo
Direct labour £10.00 per hour

16. An Example - Scenario
 Overhead recovery is on the basis of direct labour
hours.
 Standard usage of materials and labour per unit of
product
M N
Material A 5 kilos 8 kilos
Material B 3 kilos 4 kilos
Labour 6 hours 10 hours

17. An Example - Scenario
 Other data:
M N
Forecast units sold 9,000 6,000
Selling price per unit £350 £400
Budgeted closing inventory 1,500 700
Budgeted opening inventory 800 300

18. An Example - Scenario
 Other data:
 Direct Materials Inventories
Material A Material B
Budgeted opening inventory (kg) 700 600
Budgeted closing inventory (kg) 1,300 1,000
 Budgeted Overheads
Dept 1 Dept 2
Variable (controllable) £3.50/LH £2.00/LH
Fixed (non-controllable) £290,000 £150,000

19. Required
Draw up the following budgets…
 Sales Budget
 Production Budget
 Direct Materials Usage Budget
 Direct Materials Purchases Budget
 Direct Labour Budget
 Factory Overhead Budget

20. Sales Budget
Product Units sold Price/unit (£) Total Revenue (£)
M 9,000 350 3,150,000
N 6,000 400 2,400,000
5,550,000

21. Production Budget
Dept 1 (M) Dept 2 (N)
Units to be sold 9,000 6,000
Planned closing inv. 1,500 700
Total units required 10,500 6,700
Less opening inv. (800) (300)
Units to produce 9,700 6,400

22. Direct Materials Usage Budget
Dept 1 Dept 2
Units (kg) Unit Price Total Units (kg) Unit Price Total
A 48,500 £5.20 252,200 51,200 £5.20 266,240
B 29,100 £8.80 256,080 25,600 £8.80 225,280
508,280 491,520
 Total Units calculated as:
Production budget X Kilos per unit =
Product M (material A): 9,700 X 5 = 48,500 Kg
Product M (material B): 9,700 x 3 = 29,100 Kg
(same for product N)

23. Direct Materials Usage Budget
Totals
Total Units (kgs) Total Cost (£)
A 99,700 518,440
B 54,700 481,360
999,800

24. Direct Materials Purchases Budget
Material A Material B
Production requirement (DM usage) 99,700 54,700
Planned closing inventory 1,300 1,000
Total needed 101,000 55,700
Less opening inventory 700 600
purchases of direct material 100,300 55,100
Planned purchase price £5.20 £8.80
Budgeted Purchases £521,560 £484,880

25. Direct Labour Budget
Dept 1Dept 2
Budgeted production (units) 9,700 6,400
Hours per unit 6 10
Total budgeted hours 58,200 64,000
Budgeted wage rate £10.00 £10.00
Total wages £582,000 £640,000

26. Factory Overhead Budget
 Anticipated activity - Department 1 = 58,200 hours
 Anticipated activity - Department 2 = 64,000 hours
Dept 1 Dept 2
Controllable overhead *203,700 *128,000
Non-controllable overhead 290,000 150,000
Total overhead 493,700 278,000
Budgeted departmental overhead rate **£8.48 **£4.34
 * 58,200 LH X £3.50 & 64,000 LH x £ 2
 ** 493,700/58,200 & 278,000/64,000

27. The Cash Budget
 Will deal with Cash Budget as separate entity
 Workshop example - Harmison Co.
 Other budgeting methods – self learning
 Incremental budgeting
 Activity-based budgeting (ABB)
 Zero Based Budgeting (ZBB)