COURSE: INTRODUCTION TO FINANCIAL

PLANNING AND BUDGETNG.

TOPIC: BUGETING AND BUDGETARY CONTROL

COURSE CODE: AFT 05205 ,ITT 05206

COURSE INSTRUCTOR: AMIR KIMITI

 BUDGET AND BUDGETING
What is the meaning of budget?

Budget is a quantitative expression of a plan for

defined period of time.

The output from financial planning takes the form of

budgets.

 It may include planned sales volumes and revenues,

resources quantities, costs and expenses, assets,
liabilities and cash flow.
 The most widely used form of budgets is Budgeted
Financial Statements.

 The foundation for Budgeted Financial Statements is

Detail Budgets. Detail Budgets include sales forecasts,
production forecasts, and other estimates in support of
the Financial Plan. Collectively, all of these budgets are
referred to as the Master Budget.

 Therefore, to call a plan – budget, it must comprise the

quantities of economic resources to be allocated and
used, it must be made for certain period of time, it has to
be expressed in monetary terms, the managers needs to
act in a way that shows intention to realize the plan.
 Budgeting
Definition of budgeting

Budgeting is a process of expressing

quantified resource requirements (amount of
capital, amount of material, number of
people) into time-phased goals and
milestones.
The main purposes (functions) of a budgeting
are:-
1. To monitor the business and managerial
performance. They provide a framework for
evaluating the performance of managers in
meeting individual and department targets.
2. To forecast the period's trading.
3. To assist with cost control.
4. A method of planning the use of resources.
5. It enables a business to motivate staff and
improve efficiency.
6. A means of motivating individuals to achieve
performance levels agreed and set.
7. Management can measure progress against
the original plan, making adjustments where
necessary.
8. It controls income and expenditure and
informs remedial action when there is
deviation from the plan.
 Class Work
Discuss the stages involved in budgeting
process.

Discuss the advantages and disadvantages of

budgeting
 Types of Budget
The commonly types of budgets are:-
1. Capital Budget
2. Income and Expenditure Budget.
3. Cash Budget (Cashflow Forecast)
 Capital Budget
Capital budget used to determine whether an
organızatıon’s long-term investments such as new
machinery, replacement machinery, new plants, new
products, and research development projects are
worth pursuing.
A capital budget is a tool used to plan major, long-
term, cash-intensive projects like building new
facilities, purchasing major equipment or funding
long-term research.

Unlike cash budgets, capital budgets are light on

estimates and heavy on financial analysis.
 Capital budgeting
Capital budgeting is the process of planning and
managing a firm’s long-term investments.
In capital budgeting, the financial manager tries
to identify investment opportunities that are
worth more to the firm than they cost to
acquire. This means that the value of the cash
flow generated by an asset exceeds the cost of
that asset.
Evaluating the size, timing and risk of future
cash flows is the essence of capital budgeting.
 For example, the decision for IAA to open up
another Campus would be an important capital
budgeting decision.
Capital budgeting is used by companies to
evaluate major projects and investments, such
as new plants or equipment.
The process involves analyzing a project’s cash
inflows and outflows to determine whether the
expected return meets a set benchmark.
The major methods of capital budgeting include
discounted cash flow, payback, and throughput
analyses.
 Income and Expenditure Budget
Revenue budget. It consists of revenue receipts
from sales and other sources of income.

Sales budget . It shows an estimate of future

sales, often broken down into both units and
amount. It is used to create company sales goals.

Expenditure budget. It includes spending data

items
Production budget - an estimate of the number
of units that must be manufactured to meet the
sales goals. The production budget also
estimates the various costs involved with
manufacturing those units, including labor and
material.

Marketing budget – an estimate of the funds

needed for promotion, advertising, and public
relations in order to market the product or
service.
 Cash Flow
shows the expected receipts and payments
during a forecast period and are a vital
management control tool.
It is a detailed forecast of cash inflows and
outflows incorporating both revenue and
capital items.
It is thus a statement in which estimated future
cash receipts and payments are tabulated in
such a way as to show the forecast cash
balance of a business at defined intervals.
 Detailed Discussion on some of the
Functional Budgets
1. Sales Budget:
The sales budget shows the quantities of each
product that the company plans to sell and the
intended selling price.

It provides the predictions of the total revenue from

which receipts from customers will be estimated,
and it also suppliers the basic data for constructing
budgets for production costs, and for selling,
distribution and administrative expenses.
The sales budget is therefore the foundation of
all budgets. Since all expenditure is ultimately
dependent on the volume of sales.

Generally, sales budgeting is the process of

predicting sales of goods and services.

If the sales budget is not accurate, the other

budget estimates will be unreliable.
Some of the important factors to consider in sales
budgeting are;
1. Past sales levels and trends
2. General economic trends
3. Economic trends in the company’s industry
4. Other factors expected to affect sales in the industry
5. Political and legal events
6. The intended pricing policy of the economy
7. Planned advertising and product promotion
8. Expected action of the competitors
9. New products contemplated by the company or other
firms
10. Market research studies
The sales budget displays the projected sales in
units and the projected sales return

Therefore;

Total sales revenue = sales in units x unit sales

price
 Example
ABC company has projections for the annual
sales of 70,000 units basing on quarterly units
sales. The units of sales are 25,000; 10,000;
20,000 and 15,000 for the first quarter, second
quarter, third quarter and fourth quarter
respectively. The selling price per unit is Tshs. 10
and will remain constant through out the year.
From the above information, prepare sales
budget for the company.
Solution
2. Production Budget:
 When the sales budget has been completed, the
next stage is to prepare production budget.

This budget is expressed in quantities only and is

the responsibility of the production manager.

The objective is to ensure that production is

sufficient to meet sales demand and that
economic stock levels are maintained.
How to Create a Production Budget
A production budget has four components:
I. Beginning Inventory
II. Sales Forecast
III. Ending Inventory
IV. Production Required in Units of the Product
Beginning Inventory:-The beginning inventory is
the number of units left over from the previous
budgetary period. It is the ending inventory for the
previous time period. A budgetary period is a
month, quarter, year, or some other time period.

Sales Forecast:- The sales forecasts, developed

before the sales budget, is the amount of the
product the company expects to sell in the same
time period. The sales forecast is the anticipated
demand for the firm's product.
 Ending Inventory:-The ending inventory is the amount of
inventory leftover from the current time period. It becomes
the beginning inventory for the next time period. Your firm
may want to always hold a few extra units of inventory in
stock which is added to ending inventory. This is called
safety stock.

 Production Required:-The production required equals the

amount of the product to be produced during the time
period after the beginning inventory, ending inventory, and
the sales forecast are taken into account. After the
production budget is determined and the business manager
knows how many units of the product to produce in a given
time period, you use cost accounting to prepare the cost of
what you will produce. You reflect the cost of raw materials
in the direct materials purchases budget. Both direct labor
and overhead have their own budget.
Note that;

Units to be produced = Total units required –

expected beginning inventory of finished
goods.

Total units required = Sales in units + Desired

ending inventory of finished goods
Example; ABC Company plans to sell 2,000 pairs
of shoes, evenly distributed between the four
quarters of the year. The company had 100 pairs
of shoes in its finished goods inventory at the
end of the previous year. The company also want
to always have at least 50 pair in its finished
goods inventory at the end of each quarter, but
would like to end the year with 150 pair in
inventory to start the next year
 Solution
ABC COMPANY PRODUCTION BUDGET

QUATER Q1 Q2 Q3 Q4 TOTAL

BUDGETED SALES UNITS 500 500 500 500 2,000

DESIRED ENDING INVENTORY OF 50 50 50 150 300

FINISHED GOODS

TOTAL UNITS REQUIRED 550 550 550 650 2,300

LESS: BEGINNING INVENTORY OF 100 50 50 50 250

FINISHED GOODS

UNITS TO BE PRODUCED 450 500 500 600 2050

EXAMPLE 2: The following information has been made available from the accounting records of payment of
Precision Tools Ltd. for the last six months of 2019 ( and of only sales for January 2020. In respect of Fishplates X
produced by it.

(i) The units to be sold in different months are:

July………………………………2,200
August…………………………2,200
September…………………..3,400
October……………............3,800
November……………………5,000
December……………………4,600
January, 2020……………… 4,000

(ii) There will be no work-in-progress at the end of any month.

(iii) Finished units equal to half the sales for the next month will be in stock at the end of every month ( including
June 2019)

(iv) Budgeted Production and production costs for the year ending Dec. 2019 are as thus:
Production units: 44,000
Direct materials per unit: Tshs.10.00
Direct Wages per unit: Tshs.4.00

Total Factory Overheads apportioned to product: Tshs.88,000

Require: You are required to prepare:

(a) Production budget for the last six months of 2019;

(b) Production cost budget for the same period.
 TRY THIS !!!
 XYZ Limited produces a single product, the blade . Each blade has cost data as
follows:
(i) Each unit costs Tshs. 8 of raw materials
(ii) Each unit costs Tshs. 13 of labour cost
 XYZ’s sales forecast for the first quarter of the next financial year is as follows:
January: 11,800 units
February: 12,400 units
March: 12,100 units

 The forecast stock levels on 1 January are-

(i) Finished units of blade: 5,800
(ii) Increase the number of finished blades in stock by 2,000 each
month in anticipation of a sales drive in the second quarter.

Required: Produce the following budgets for the months of January, February, and
March:
a) Production of XYZs (in units)
b) Production of XYZs (in Tshs)
 Budgets for Raw Materials Usage and
Raw Materials to be Purchased
After the production budget has been developed
in units, we can calculate the quantity of raw
materials needed and the amount of labor time
required.
The raw materials usage budget is created to
calculate the amount of raw materials that will be
used in production.
The raw materials purchases budget can be
created after establishing the materials usage
budget.
Here, differences between the quantity of material
to be consumed in production and the quantity to
be purchased will depend primarily on the required
movement in raw material goods stocks.

The reasoning follows a similar pattern to the one

described for sales, finished goods, and production.

If we already have raw materials in the opening

stock, this amount does not have to be purchased,
but the quantity that we plan to have in stock at the
end of the period must be purchased in addition to
the amount that will be used in production.
The quantity of raw material to be purchased, as
recorded in the raw materials purchases budget,
will therefore equal:

Quantity of raw materials to be purchased = quantity

of raw material to be used (per raw materials usage
budget) + closing stock of raw materials – opening
stock of raw materials
 Labor Utilization Budget
The labour utilization budget is usually based on
labour time in hours, but it can be converted into
an equivalent number of full-time employees.

Any shortfall in the availability of personnel will

become clear at this stage, as will any anticipated
requirement for overtime work.

The payment of labor as calculated in the labor

utilization budget will feed directly into the cash
budget.
Example: ABC Limited produces a single product, the chocolate. Each chocolate has
cost data as follows:
3 kilos raw material at Tshs.8 per kilo
2 hours labor at Tshs 6. per hour
 ABC’s sales forecast for the first quarter of the next financial year is as follows:
January: 11,800 units
February: 12,400 units
March: 12,100 units
 The forecast stock levels on 1 January are:
Finished units of chocolate : 5,800
Raw materials: 8,000 kgs.
 ABC Limited plans to reduce its raw material stock by 500 kgs. in each month of the
first quarter. It will also increase the number of finished chocolate in stock by 2,000
each month in anticipation of a sales drive in the second quarter.

 Required: Produce the following budgets for the months of January, February, and
March:
(a) Production of chocolate (in units)
(b) Usage of raw materials (in kgs. and Tshs)
(c ) Purchases of raw materials (in kgs. and Tshs)
(d) Labor utilization (in hours and Tshs)
 Solution
(a) Production budget in units
MONTHS JANUARY FEBRUARY MARCH

Sales Units 11,800 12,400 12,100

Add: Closing Stock of Finished Units 7,800 9,800 11,800

Total Units Required 19,600 22,200 23,900

Less: Opening Stock of Finished Units 5,800 7,800 9,800

Units To be Produced (Production Units) 13,800 14,400 14,100

 (b) Raw materials usage budget

MONTHS JANUARY FEBRUARY MARCH

Production units ( as per (a) above) 13,800 14,400 14,100

Raw material usage (3kg per unit) 41,400 kg 43,200 kg 42,300 kg

Cost of Raw material usage ( Tshs 8 per kg) Tshs. 331,200 Tshs. 345,600 Tshs.338,400
 (c ) Budget of Raw materials to be
purchased
MONTHS JANUARY FEBRUARY MARCH

Raw materials usage (as per (b) above) 41,400 kg 43,200 kg 42,300 kg

Add: Closing Stock of Raw materials 7,500 kg 7,000 kg 6,500 kg

Total Raw Materials Required 48,900 kg 50,200 kg 48,800 kg

Less: Opening Stock of Raw materials 8,000 kg 7,500 kg 7,000 kg

Raw materials to be purchased (Raw 40,900 kg 42,700 kg 41,800 kg

material purchases)
Costs of Raw materials to be purchased at Tshs. 327,200 Tshs. 341,600 Tshs. 334,400
Tshs.8 per kg
 (d) Labour Utilization Budget

MONTHS JANUARY FEBRUARY MARCH

Production units ( as per (a) above) 13,800 14,400 14,100

Labour utilization at 2 hours per unit 27,600 hrs 28,800 hrs 28,200 hrs

Costs of Labour at Tshs. 6 per hour Tshs. 165,600 Tshs. 172,800 Tshs. 169,200